In part 1 of this study I examine several models of competitive markets in which a group of uninformed traders uses the equilibrium price of a traded asset as an indirect source of information known to a group of informed traders. Four different models are compared in two homogeneous information cases plus one asymmetric information case, revealing a) an allocative efficiency benefit resulting from the opportunity to trade current consumption for future consumption, b) a 'dealer' benefit accruing to traders who are able to observe and act on demand fluctuations not apparent to other traders, c) a 'hedging' benefit accruing to all traders, and d) a loss of hedging benefits due to information dissemination before hedge trading can take place. The effect of an increase in precision of information given to informed traders is calculated for the above factors and for net welfare. In part 2, a two-factor model using the instantaneous rate of interest and the return on a consol bond to describe the term structure of interest rates - the Brennan-Schwartz model - is used to derive theoretical prices for American call and put options on U.S. government bonds and treasury bills. These model prices are then compared with market prices. The theoretical model used to value the debt options also provides hedge ratios which may be used to construct zero-investment portfolios which, in theory, are perfectly riskless. Several trading strategies based on these 'riskless' portfolios are examined. / Business, Sauder School of / Graduate

The behavior of the term structure of interest rates in government bonds parallels that of the behavior in high-grade corporate bonds. Previous studies have demonstrated that there are synchronous changes in different maturities in high-grade corporate bonds. Results of statistical tests and measurements of the term structure in U.S. Treasury obligations are compared with previous studies to confirm that the behavior of the yield curve, from the mid-1950's until the 1970's, is consistent with previous norms that there are synchronous changes in all maturities but that there has been an increase in the relative sensitivity of changes in longer term rates since the 1970's per unit change in the short term rates. Generally, all maturities move in the same direction with intermediate and long term rates more synchronous than shorter term rates. Changes in rates are highly correlated across all maturities, but intermediate and short term rates are somewhat more highly correlated with each other than with long term rates. Also, there is a general tendency for relative volatility to vary inversely with maturity. However, there was an increase in the relative volatility of longer term rates in the 1970's and 1980's. The results are generally consistent with Meiselman's earlier findings for high grade corporate bonds between 1900 and 1954, except for the more recent increase in the volatility of long term U.S. Treasury bonds. / Master of Arts