Corporate Finance (4th Edition) (Pearson Series in Finance) - Standalone book
4th Edition
ISBN: 9780134083278
Author: Jonathan Berk, Peter DeMarzo
Publisher: PEARSON
expand_more
expand_more
format_list_bulleted
Concept explainers
Videos
Question
Chapter 12, Problem 15P
a)
Summary Introduction
To determine: The probability of default that is consistent with the yield to maturity of the bonds.
Introduction:
A bond refers to the debt securities issued by the governments or corporations for raising capital.
b)
Summary Introduction
To determine: The probability of default that is consistent with the yield to maturity of the bonds.
Introduction:
Yield to maturity (YTM) is the
Expert Solution & Answer
Trending nowThis is a popular solution!
Students have asked these similar questions
In mid-2009, Rite Aid has CCC-rated, 11-year bonds outstanding with a yield to maturity of 17.3%.At the same time, similar maturity Treasuries had a yield of 2%. Suppose the market risk premiumis 4% and you believe Rite Aid’s bonds have a beta of 0.39. The expected loss rate of these bonds inthe event of default is 52%. What annual probability of default would be consistent with the yield tomaturity of these bonds in mid-2009?
In mid-2012, Ralston Purina had AA-rated, 10-year bonds outstanding with a yield to maturity of 1.53%.
a. What is the highest expected return these bonds could have?
b. At the time, similar maturity Treasuries had a yield of 0.53%. Could these bonds actually have an expected return
equal to your answer in part (a)?
c. If you believe Ralston Purina's bonds have 0.8% chance of default per year, and that expected loss rate in the
event of default is 54%, what is your estimate of the expected return for these bonds?
a. What is the highest expected return these bonds could have?
The highest expected return these bonds could have is%. (Round to two decimal places.)
During the recession in mid-2009, homebuilder KB Home had outstanding 7-year bonds with a yield to maturity of 8.7% and a BB rating. If corresponding risk-free rates were 2.6%, and the market risk premium was 4.8%, estimate the expected return of KB Home's debt using two different methods. How do your
results compare?
Note: the average loss rate for unsecured debt is about 60%. See annual default rates by debt rating here
and average debt betas by rating and maturity here
Considering the probability of default, the expected return of the bond is %. (Round to two decimal places.)
Data table
(Click on the following icon in order to copy its contents into a spreadsheet.)
Annual Default Rates by Debt Rating
A
BBB
BB
Rating:
Default Rate:
AAA
AA
Print
2.2%
8.0%
B
Average
0.0% 0.1% 0.2% 0.5%
In Recessions 0.0% 1.0% 3.0% 3.0%
Source: "Corporate Defaults and Recovery Rates, 1920-2011," Moody's Global Credit Policy, February
2012.
Done
CCC
5.5%
16.0%
CC-C
12.2%
48.0%
14.1%
79.0%
- X
4
Chapter 12 Solutions
Corporate Finance (4th Edition) (Pearson Series in Finance) - Standalone book
Ch. 12.1 - According to the CAPM, we can determine the cost...Ch. 12.1 - What inputs do we need to estimate a firms equity...Ch. 12.2 - How do you determine the weight of a stock in the...Ch. 12.2 - Prob. 2CCCh. 12.2 - Prob. 3CCCh. 12.3 - How can you estimate a stocks beta from historical...Ch. 12.3 - How do we define a stocks alpha, and what is its...Ch. 12.4 - Why does the yield to maturity of a firms debt...Ch. 12.4 - Prob. 2CCCh. 12.5 - What data can we use to estimate the beta of a...
Ch. 12.5 - Prob. 2CCCh. 12.6 - Why might projects within the same firm have...Ch. 12.6 - Under what conditions can we evaluate a project...Ch. 12.7 - Prob. 1CCCh. 12.7 - Prob. 2CCCh. 12 - Prob. 1PCh. 12 - Suppose the market portfolio has an expected...Ch. 12 - Prob. 3PCh. 12 - Suppose all possible investment opportunities in...Ch. 12 - Using the data in Problem 4, suppose you are...Ch. 12 - Prob. 6PCh. 12 - Prob. 7PCh. 12 - Suppose that in place of the SP 500, you wanted to...Ch. 12 - Prob. 9PCh. 12 - You need to estimate the equity cost or capital...Ch. 12 - In mid-2012, Ralston Purina had AA-rated, 10-year...Ch. 12 - Prob. 15PCh. 12 - Prob. 16PCh. 12 - Prob. 17PCh. 12 - Your firm is planning to invest in an automated...Ch. 12 - Consider the setting of Problem 18. You decided to...Ch. 12 - Prob. 20PCh. 12 - In mid-2015, Cisco Systems had a market...Ch. 12 - Weston Enterprises is an all-equity firm with two...Ch. 12 - Prob. 24PCh. 12 - Your company operates a steel plant. On average,...Ch. 12 - Prob. 26PCh. 12 - You would like to estimate the weighted average...
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Similar questions
- Please answer to question (c)arrow_forwardIn mid-2021, Rockebakker River (RR) had AA-rated, 10-year bonds outstanding with a yield to maturity of 1.52%. a. What is the highest expected return RR's bonds could have? b. At the time, similar maturity Treasuries had a yield of 0.52%. Could RR's bonds actually have an expected return equal to your answer in part (a)? c. If you believe RR's bonds have 0.8% chance of default per year, and that expected loss rate in the event of default is 50%, what is your estimate of the expected return for these bonds? ..... a. What is the highest expected return these bonds could have? The highest expected return these bonds could have is %. (Round to two decimal places.) b. At the time, similar maturity Treasuries had a yield of 0.52%. Could RR's bonds actually have an expected return equal to your answer in part (a)? (Select the best choice below.) O A. No, if the bonds are risk-free, the expected return equals the risk-free rate, and if they are not risk-free the expected return is less than…arrow_forwardA company's 5-year bonds are yielding 7.75% per year. Treasury bonds with the same maturity are yielding 5.2% per year, and the real risk free rate (r*) is 2.3%. The average inflation premuim is 2.5% and the maturity risk premium is estimated to be 0.1X(t-1) % where t= the number of maturity. If the iquidity premium is 1% what is the default risk premium on the corporate bonds.? Please show formula and calculation. Do it in manual computation not in spreadsheet.arrow_forward
- Please correct answer and step by step solutionarrow_forwardA company's 5-year bonds are yielding 8% per year. Treasury bonds with the same maturity are yielding 5.2% per year, and the real risk - free rate (r*) is 2.65 % . The average inflation premium is 2.15%, and the maturity risk premium is estimated to be 0.1 \times (t-1) %, where t = number of years to maturity. If the liquidity premium is 0.7 %, what is the default risk premium on the corporate bonds? Round your answer to two decimal places.arrow_forwardA company’s 5-year bonds are yielding 7% per year. Treasury bonds with the same maturity are yielding 5.2% per year, and the real risk-free rate (r*) is2.75%. The average inflation premium is 2.05%, and the maturity risk premium is estimated to be 0.1 3 (t 2 1)%, where t 5 number of years to maturity. If the liquidity premium is 0.7%, what is the default risk premium on the corporate bonds?arrow_forward
- A nominal risk-free rate is currently 3.5%. A broker at INV Securities, has given you the following estimates of current interest rate premiums: Inflation Premium: 2%, Liquidity Risk Premium 1.5%. Maturity Risk Premium 3%, and Default Risk Premium 1.5%. Based on these data, what are the rates of short-term corporate bonds? O 7.5% O 6.5% 8% 8.5%arrow_forwardYou are considering an investment in 30-year bonds issued by Moore Corporation. The bonds have no special covenants. The Wall Street Journal reports that 1-year T-bills are currently earning 1.35 percent. Your broker has determined the following information about economic activity and Moore Corporation bonds: Real risk-free rate = 0.65% Default risk premium = 1.25% Liquidity risk premium = 0.70% Maturity risk premium = 1.85% What is the inflation premium? What is the fair interest rate on Moore Corporation 30-year bonds? ( explain all with proper address ) .arrow_forwardPlease show the calculation in mathematical formula (no excel please).arrow_forward
- You are considering an investment In 30-year bonds issued by Moore Corporation. The bonds have no special covenants. The Wall Street Journal reports that 1-year T-bills are currently earning 1.40 percent. Your broker has determined the following Information about economic activity and Moore Corporation bonds: Real risk-free rate = 0.60% Default risk premium = 1.30% Liquidity risk premium = 0.80% Maturity risk premium = 1.90% a. What is the inflation premium? (Round your answer to 2 decimal places.) Expected IP b. What is the fair interest rate on Moore Corporation 30-year bonds? (Round your answer to 2 decimal places.) Fair Interest ratearrow_forwardYou are considering an investment in 30-year bonds issued by Moore Corporation. The bonds have no special covenants. The Wall Street Journal reports that 1-year T-bills are currently earning 1.50 percent. Your broker has determined the following information about economic activity and Moore Corporation bonds: Real risk-free rate = 0.50% Default risk premium = 1.40% Liquidity risk premium = 1.00% Maturity risk premium = 2.00% a. What is the inflation premium? b. What is the fair interest rate on Moore Corporation 30-year bonds? Note: Round your percentage answers to 2 decimal places (ie., 0.1234 should be entered as 12.34). Expected inflation premium Fair interest ratearrow_forwardYou are considering an investment in 30-year bonds issued by Moore Corporation. The bonds have no special covenants. The Wall Street Journal reports that 1-year T-bills are currently earning 1.25 percent. Your broker has determined the following information about economic activity and Moore Corporation bonds: Real risk-free rate = 0.75% Default risk premium = 1.15% Liquidity risk premium = 0.50% Maturity risk premium = 1.75% What is the inflation premium? What is the fair interest rate on Moore Corporation 30-year bonds?arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
EBK CONTEMPORARY FINANCIAL MANAGEMENTFinanceISBN:9781337514835Author:MOYERPublisher:CENGAGE LEARNING - CONSIGNMENT
EBK CONTEMPORARY FINANCIAL MANAGEMENT
Finance
ISBN:9781337514835
Author:MOYER
Publisher:CENGAGE LEARNING - CONSIGNMENT
Bond Valuation - A Quick Review; Author: Pat Obi;https://www.youtube.com/watch?v=xDWTPmqcWW4;License: Standard Youtube License