As we know, the yield curve can be upward sloping, downward sloping or flat. There are three theories about the shape of the yield curve. These are;
- Market segmentation theory: There is short-term and long term separation for markets and investors. The yield curve is probably upward, downward or flat.
- Liquidity preference theory: Short-term securities are preferred to long-term securities because short-term ones are liquid. The yield curve must be upward sloping.
- Expectations theory: Based on the economic factors’ expectations, the yield curve can be upward, downward or flat.