Chartered Financial Analyst (CFA) Practice Exam Level 2

In the context of yield curves, what does “long-term yield volatility” primarily result from?

1. Short-term market pressures

2. Real economic changes

3. Limited investor preference

4. Regulatory policies

The correct answer is: Real economic changes

Long-term yield volatility is primarily influenced by real economic changes. This is because long-term yields reflect the market's expectations regarding future economic conditions, including factors such as inflation expectations, growth forecasts, and interest rate adjustments over time. If the economy is perceived to be unstable or undergoing significant shifts, it can lead to greater uncertainty around long-term yields, causing increased volatility. Changes in the real economy, such as shifts in GDP growth forecasts, fluctuations in employment data, or significant monetary policy adjustments, directly impact investor sentiment and expectations for the future, which in turn affects long-term yields. This is distinct from short-term market pressures, investor preferences, or regulatory policies, which might influence yields at a given point in time but do not have the same long-term effect on volatility. Thus, the variability in long-term yields is primarily a function of underlying economic fundamentals rather than transient factors.