Concept explainers
a)
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)
To determine: The probability of default that is consistent with the yield to maturity of the bonds.
Introduction:
Yield to maturity (YTM) is the
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Chapter 12 Solutions
Corporate Finance (4th Edition) (Pearson Series in Finance) - Standalone book
- In 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_forwardA 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_forward
- Given the following data, find the expected rate of inflation during the next year. r = real risk-free rate= 2.20%. Maturity risk premium on 10-year T-bonds = 2%. It is zero on 1-year bonds, and a linear relationship exists. Default risk premium on 10-year, A-rated bonds = 1.5%. Liquidity premium = 0%. Going interest rate on 1-year T-bonds = 4.80%. 3.0% 2.2% 2.8% 2.6% O 2.4%arrow_forwardFlagstaff Inc's 5-year bonds yield 7.00% and 5-year T-bonds yield 5.80%. The real risk-free rate is r* = 3.5%, the default risk premium for the bonds is DRP = 0.90%, the liquidity premium on Flagstaff's bonds is LP = 0.30% versus zero on T-bonds, and the inflation premium (IP) is 1.5%. What is the maturity risk premium (MRP) on all 5-year bonds?arrow_forwardKelly Inc's 5-year bonds yield 7.50% and 5-year T-bonds yield 4.50%. The real risk-free rate is r* = 2.5%, the default risk premium for Kelly's bonds is DRP = 0.40%, the liquidity premium on Kelly's bonds is LP = 2.6% versus zero on T-bonds, and the inflation premium (IP) is 1.5%. What is the maturity risk premium (MRP) on all 5-year bonds?Answer 0.38%0.50%0.40%0.59%0.56%arrow_forward
- I need a step by step solution on how to solve these types of problems: Lee Corp.'s 5-year bonds yield 7.50% and 5-year T-bonds yield 4.40%. The real risk-free rate is r* = 2.5%, the inflation premium for 5-year bonds isIP = 1.50%, the default risk premium for Kay's bonds is DRP = 1.40% versus zero for T-bonds, and the maturity risk premium for all bonds is found with the formula MRP = (t –1)×0.1%, where t = number of years to maturity. What is the liquidity premium (LP) on Kay's bonds?arrow_forwardA company’s 5-year bonds are yielding 7% per year. Treasurybonds 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 estimatedto be 0.1 x (t - 1)%, where t = number of years to maturity. If the liquidity premium is0.7%, what is the default risk premium on the corporate bonds?arrow_forwardYield to maturity (YTM) is the rate of return expected from a bond held until its maturity date. However, the YTM equals the expected rate of return under certain assumptions. Which of the following is one of those assumptions? RTE Inc. has 9% annual coupon bonds that are callable and have 18 years left until maturity. The bonds have a par value of $1,000, and their current market price is $1,160.35. However, RTE Inc. may call the bonds in eight years at a call price of $1,060. What are the YTM and the yield to call (YTC) on RTE Inc.’s bonds? If interest rates are expected to remain constant, what is the best estimate of the remaining life left for RTE Inc.’s bonds? If RTE Inc. issued new bonds today, what coupon rate must the bonds have to be issued at par?arrow_forward
- Lee Corp.'s 5-year bonds yield 7.50% and 5-year T-bonds yield 4.40%. The real risk-free rate is r* = 2.5%, the inflation premium for 5-year bonds is IP = 1.50%, the default risk premium for Kay's bonds is DRP = 1.40% versus zero for T-bonds, and the maturity risk premium for all bonds is found with the formula MRP = (t – 1) ×0.1%, where t = number of years to maturity. What is the liquidity premium (LP) on Kay's bonds?arrow_forwardSyna Corporation's 4-year bond currently yield 7.4%. The real risk-free rate of interest, k* is 2.7% and is assumed to be constant. The maturity risk premium (MRP) is estimated to be 0.1% (t - 1), where t is equal to the time to maturity. The default risk and liquidity premiums for this company's bond total 0.9 percent and are believed to be the same for all bonds issued by the company. If the average inflation rate is expected to be 5 percent for years, 5, 6, and 7, what is the yield on a 7-year bond for Syna?arrow_forwardThe outstanding bonds of Winter Tires Inc. provide a real rate of return of 3.2 percent. If the current rate of inflation is 2.1 percent, what is the actual nominal rate of return on these bonds?arrow_forward
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