Segmented-markets hypothesis:

Let us now come to the segmented-markets hypothesis of term-structure of interest rates. It is at the opposite end of the theoretical spectrum from the expectations theory. it says that bonds with different maturity periods are substitutable for each other; their yields are determined independently of each other. It views the markets for bonds with different maturities as  separate. In each segment, the yield is determined by the intersection of demand and supply for that type of bond. 

The idea behind the market segment hypothesis is that investors have preferences for financial instruments with particular terms to maturity. If a person has idle cash balances which he will not need for another seven years when he need it because he retires then, in that case the person will be attracted to and invest in bonds with a 7- year maturity period. Purchasing a holding a bond for seven years is more attractive for him than holding a bond for shorter period and then reselling and buying a bond subsequently because the transaction costs would be higher in the latter case. Also, the interest risk would be greater because in the future the interest may come down.

On the other hand, if he holds a short period bond and the interest rate rose in the subsequent period then the price of bond will fall, leading to a capital loss for him when he sold the bond. The segmented-market hypothesis implies that the relative supply of and demand for bonds and other financial instruments of varying maturities determines the shape of the yield curve. The  segmented-markets theory has been criticised on two grounds. First, it is not very useful in predicting changes in the pattern of  yields; it states only that changes in preferences for loans of varying maturities will determine the shape o f the yield curve. Secondly, the theory suggests that the long- and short-term rates are not related to each other. Contrary to this, evidence seems to suggest that long-term and short-term rates move together.