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    What is the bonds default risk premium?

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    The real risk-free rate, r*, is 2.5%. Inflation is expected to average 2.8% a year for the next 4 years, after which time inflation is expected to average 3.75% a year. Assume that there is no maturity risk premium. An 8-year corporate bond has a yield of 8.3%, which includes a liquidity premium of 0.75%. What is its default risk premium?

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    Solution Preview

    Given r* = 2.5%, IP4 = 2.8%, IP>4 = 3.75%, MRP = 0, C8 (or 8-year corporate bond) = 8.3%, LP = ...

    Solution Summary

    This solution is in a MS Word document that contains 100 words. It shows a step-by-step calculation of the default risk premium. It provides students with a clear perspective of a corporate bond yield with changes in inflation.