Posted: January 6th, 2016
Interest Rates and Time Value of Money
Interest Rates and Time Value of Money (70 Points)
1.A security’s equilibrium rate of return is 7 percent. For all securities, the inflation risk premium is 1.65 percent and the real interest rate is 3.25 percent. The security’s liquidity risk premium is .25 percent and maturity risk premium is .75 percent. The security has no special covenants. Calculate the security’s default risk premium.
2.You are considering an investment in 30-year bonds issued by Envision Corporation. The bonds have no special covenants. The Wall Street Journal reports that one-year T-bills are currently earning 3.25 percent. Your broker has determined the following information about economic activity and Envision Corporation bonds:
1.A security’s equilibrium rate of return is 7 percent. For all securities, the inflation risk premium is 1.65 percent and the real interest rate is 3.25 percent. The security’s liquidity risk premium is .25 percent and maturity risk premium is .75 percent. The security has no special covenants. Calculate the security’s default risk premium.
2.You are considering an investment in 30-year bonds issued by Envision Corporation. The bonds have no special covenants. The Wall Street Journal reports that one-year T-bills are currently earning 3.25 percent. Your broker has determined the following information about economic activity and Envision Corporation bonds:
Real interest rate is 2.20%
Default risk premium is 1.00%
Liquidity risk premium is 0.50%
Maturity risk premium is 1.75%
a. What is the inflation premium?
b. What is the fair interest rate on Moore Corporation 30-year bonds?
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