Fair Interest Rate Calculation

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a) The fair interest rate on five-year Treasury securities Using the formula given below, it is necessary to use the information that has been supplied toto calculate the appropriate interest rate for the fifth-year Treasury securities. As a result of the calculations above, the yield for Year 5 of Treasury securities, which is 5.80%, is the appropriate interest rate for five-year Treasury securities.

b) What is the fair interest rate on PeewEE Corporation's five-year bonds? To determine the appropriate interest rate for the bonds issued by PeeWee Corporation with a maturity of five years, it will be necessary to use the information provided, which contains a variety of premiums and rates for each year. The formula used in determining this yield or interest rate for sixth-year bonds issued by PeeWee Corporation must be carried out beginning with the first year and continuing through the fifth year. This is the formula that we should use: Yield is equal to the Real Risk-Free Rate (year 1, 2, 3, 4, or 5) plus the Inflation Premium, the Default Risk Premium, the Liquid Risk Premium, and the Maturity Risk Premium (if applicable) (year 1, 2, 3, 4, or 5). i.e 1. The yield for the first year is calculated as follows, 2. The yield for the second year is calculated as follows,

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The formula for calculating yield is "Real Risk-Free Rate (Year 2) plus Inflation Premium (Year 2) plus Default Risk Premium plus Liquid Risk Premium plus Maturity Risk Premium (Year 2)." One may determine the yield for the third year by using the following formula: Real Risk-Free Rate (Year 3) plus Inflation Premium (Year 3) plus Default Risk Premium Plus Liquid Risk Premium plus Maturity Risk Premium (Year 3) This is the formula for calculating yield. 3. The yield for the fourth year is calculated as follows, Yield equals the real risk-free rate for the fourth year and beyond, plus the inflation premium for the fourth year and beyond, the default risk premium, the liquid risk premium, and the maturity risk premium for the fourth year and beyond.

These calculations for each year indicate that the appropriate interest rate for the bonds issued by PeeWee Corporation, with a maturity of five years, is 10.8725%. c) Plot the five-year yield curve for the Treasury securities.

0.5 1 1.5 2 2.5 3 3.5 4 4.5 5 5.5 0.00% 1.00% 2.00% 3.00% 4.00% 5.00% 6.00% 7.00% A visual representation of the yield curve: Yields or interest rate per year It becomes clear that there is a distinct increase in the yield as one moves along the yield curve from the left to the right. This is something that becomes evident as one moves along the curve. A yield curve that is frequently referred to as a "normal" yield curve is the one that is pictured above. This yield curve is distinguished by its upward slope. This terminology originates from the fact that it has a propensity to encapsulate the usual structure that is seen functioning inside an economic system that is sturdy and operational. According to Kroon (2023), the traditional portrayal of a yield curve signals investors' expectations about a steady development of the economy and a sustainable level of inflation. Such expectations are based on the assumption that the economy would continue to grow. It is possible to draw the following conclusion according to the yield curve that is now in place. Increased long-term interest rates result from such a configuration, which increases the likelihood that investors would seek more compensation for allocating their money for extended investment periods. This will ultimately lead to higher interest rates. Given the ever-evolving features of yield curves, which are susceptible to the influence of economic conditions, central bank tactics, and market

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anticipations, it is of fundamental significance to continually examine and appraise them before developing investment judgments. d) Plot the five-year yield curve for the PeeWee Corporation bonds 0.5 1 1.5 2 2.5 3 3.5 4 4.5 5 5.5 0.00% 2.00% 4.00% 6.00% 8.00% 10.00% 12.00% Curve for the PeeWee Corporation bonds yield for the PeeWee Corporation bonds The yield curve of PeeWee Corporation's bonds closely resembles the layout of the Treasury's yield curve. There is a clear relationship between the bond yields of PeeWee Corporation and the length of their separate maturities, indicating a positive association. The shape of the yield curve, often following a Gaussian distribution, demonstrates the phenomenon where investors want higher returns as compensation for holding PeeWee Corporation's bonds for more extended periods. The cited phenomena are often shown by the yield curve following a Gaussian distribution. The increase in interest rates may be linked to the current market mood towards the bonds issued by PeeWee Corporation. Bonds with longer maturities are seen as having a higher degree of risk and uncertainty. Based on Kutvonen's (2023) academic research, it

is noted that investors often show a desire for higher returns when it comes to longer-term bonds. This predisposition may be related to acknowledging the underlying dangers intrinsically linked to these specific partnerships. The risks include the risk of default, the potential for inflation, and the mysterious uncertainty surrounding the murky future economic prospects. References Kroon, W. (2023). The uncertainty in forecasting the Swedish bond market: A yield curve modeling analysis. https://www.diva- portal.org/smash/get/diva2:1745300/FULLTEXT01.pdf Kutvonen, J. (2023). The effects of ECB's asset purchase programs on corporate bond yields: Evidence from the Eurobond market.

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