B2. Corporate Bonds (Answer all parts of this question.) Suppose you have a 6% coupon bond that matures in 1 year from now. The principal is 1,000. The bond currently trades at 900. Assume that the risk-free rate is at 2%. (a) (b) (c) (d) (e) How large is the risk premium? How much would it cost you to insure this bond against default today? What is the expected cash flow Eo [CF₁]? What is the probability of default p? Show that the expected profit from selling insurance against default is 0.

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
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B2. Corporate Bonds (Answer all parts of this question.)
Suppose you have a 6% coupon bond that matures in 1 year from now. The principal
is 1,000. The bond currently trades at 900. Assume that the risk-free rate is at 2%.
(a)
(b)
(c)
(d)
(e)
How large is the risk premium?
How much would it cost you to insure this bond against default today?
What is the expected cash flow Eo [CF₁]?
What is the probability of default p?
Show that the expected profit from selling insurance against default is 0.
Transcribed Image Text:B2. Corporate Bonds (Answer all parts of this question.) Suppose you have a 6% coupon bond that matures in 1 year from now. The principal is 1,000. The bond currently trades at 900. Assume that the risk-free rate is at 2%. (a) (b) (c) (d) (e) How large is the risk premium? How much would it cost you to insure this bond against default today? What is the expected cash flow Eo [CF₁]? What is the probability of default p? Show that the expected profit from selling insurance against default is 0.
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