The real risk-free rate (r*) is 2.80% and is expected to remain constant into the future. Inflation is expected to be 4.05% per year for each of the next three years and 2.85% thereafter. The maturity risk premium (MRP) is determined from the formula: 0.10 x (t - 1)%, where t is the security's maturity. The liquidity premium (LP) on all Gauge Imports Inc.'s bonds is 1.20%. The following table shows the current relationship between bond ratings and default risk premiums (DRP): Rating Default Risk Premium U.S. Treasury AAA 0.60% AA 0.80% A 1.05% BBB 1.45% Gauge Imports Inc. issues nine-year, AA-rated bonds. What is the yield on one of these bonds? (Hint: Disregard cross-product terms; that is, if averaging is required, use an arithmetic average.) O 7.65% 8.85% 5.60% 8.05% Based on your understanding of the determinants of interest rates, if everything else remains the same, which of the following will be true? The yield on U.S. Treasury securities always remains static. The yield on a AAA-rated bond will be lower than the yield on a AA-rated bond.

The real risk-free rate (r*) is 2.80% and is expected to remain constant into the future. Inflation is expected to be 4.05% per year for each of the next three years and 2.85% thereafter. The maturity risk premium (MRP) is determined from the formula: 0.10 x (t - 1)%, where t is the security's maturity. The liquidity premium (LP) on all Gauge Imports Inc.'s bonds is 1.20%. The following table shows the current relationship between bond ratings and default risk premiums (DRP): Rating Default Risk Premium U.S. Treasury AAA 0.60% AA 0.80% A 1.05% BBB 1.45% Gauge Imports Inc. issues nine-year, AA-rated bonds. What is the yield on one of these bonds? (Hint: Disregard cross-product terms; that is, if averaging is required, use an arithmetic average.) O 7.65% 8.85% 5.60% 8.05% Based on your understanding of the determinants of interest rates, if everything else remains the same, which of the following will be true? The yield on U.S. Treasury securities always remains static. The yield on a AAA-rated bond will be lower than the yield on a AA-rated bond.

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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The risk-free interest rate is 4.1% per year, the liquidity premium is 0.5% per year, the maturity premium is 0.7% per year, the inflation premium is 2.2% per year, and the default premium is 2.7% per year. What is the annual real interest rate? 1) 1.9% 2) 1.5% 3) 2.3% 4) 2.1% 5) 1.7%
A company's 5-year bonds are yielding 10% per year. Treasury bonds with the same maturity are yielding 5.8% per year, and the real risk-free rate (r*) is 2.85%. The average inflation premium is 2.55%, and the maturity risk premium is estimated to be 0.1 × (t - 1)%, where t = number of years to maturity. If the liquidity premium is 0.4%, what is the default risk premium on the corporate bonds? Round your answer to two decimal places.
Quantitative Problem: An analyst evaluating securities has obtained the following information. The real rate of interest is 2.5% and is expected to remain constant for the next 5 years. Inflation is expected to be 2% next year, 3% the following year, 4% the third year, and 5% every year thereafter. The maturity risk premium is estimated to be 0.1 x (t- 1)%, where t = number of years to maturity. The liquidity premium on relevant 5-year securities is 0.5% and the default risk premium on relevant 5-year securities is 1%. a. What is the yield on a 1-year T-bill? Do not round intermediate calculations. Round your answer to two decimal places. % b. What is the yield on a 5-year T-bond? Do not round intermediate calculations. Round your answer to two decimal places. % c. What is the yield on a 5-year corporate bond? Do not round intermediate calculations. Round your answer to two decimal places. % Icon Key Check My Work (3 remaining)
Suppose 1-year T-bills currently yield 7.00% and the future inflation rate is expected to be constant at 2.00% per year. What is the real risk-free rate of return, r*? The cross-product term should be considered , i.e., if averaging is required, use the geometric average. (Round your final answer to 2 decimal places.)
What is the nominal yield on a 10-year government T-note if the real rate is 4%, the expected inflation is 5%, the liquidity premium is 1%, and the maturity risk premium is 1%? 1.5% • not enough information • 1.0% • 2.0% .
4. Let R be the one-year LIBOR rate with annual compounding that will be determined in 6 years from now. Assume the forward interest rate volatility for the corresponding period is 20% per year. The risk-free rates with annual compounding are currently 5% for all maturities. a. Calculate the price of a financial derivative that pays 1000R € in 6 years from now. b. Calculate the price of a financial derivative that pays 1000R € in 7 years from now.
Based on economists' forecasts and analysis, 1-year Treasury bill rates and liquidity premiums for the next four years are expected to be as follows: R₁ = 0.55% R1 E(21) = 1.70% = 42 = 0.08% E(31) 1.80% 43 = L4= 0.12% 0.14% = E(41) 2.10% Using the liquidity premium theory, determine the current (long-term) rates. Note: Do not round intermediate calculations. Round your percentage answers to 2 decimal places (i.e., 0.1234 should be entered as 12.34). Current (Long-term) Rates Years 1 % 2 % 3 % 4 5 %
Based on economists' forecasts and analysis, 1-year Treasury bill rates and liquidity premiums for the next four years are expected to be as follows: R1 = 0.80% = 1.95% E(201) E(3r1) E(41) = 2.05% = 2.35% Years 1 2 3 4 42= 0.07% 43= 0.11% L4= 0.13% Using the liquidity premium theory, determine the current (long-term) rates. (Do not round intermediate calculations. Round your answers to 2 decimal places.) Current (Long-term) Rates % % % %
Assume that thr nominal interest rate is 14%, the risk premium is 4% and real interest rate is 3%, find the inflation rate and the risk free interest rate.
5 Year Treasury Notes are currently yielding 6.00%, and you have found the following interest premium that relate to this investment: • Inflation premium 1.75% • Liquidity premium 0.00% • Default risk premium 0.00% • Maturity risk premium 1.50% Given the above information, what is the real risk-free rate of return?
Suppose the spot rates for the next three years are 4.2%, 4.6% and 4.8% respectively. The one year forward rates are 4.2%, 5.0015% and 5.2012%, respectively as well. Using a value of 10% for the volatility of the one year forward rate, construct a three-year binomial interest rate tree with one year forward rates.

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