What is the predicted yield for each of the two investments

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Reference no: EM132004580

Suppose you are considering two possible investment opportunities: the first is a 10 year Treasury Bond and the second, is a 7 year AA-rate corporate bond.

The current real risk free rate is 3% and inflation is expected to be 1.5% for the next 2 years, 2.5% for the following 4 years, and 3.5% thereafter.

The maturity risk premium is estimated by the following formula: MRP= .02(t-1). The liquidity premium for the corporate bond is estimated to be .25%. The default risk premium can be determined from the table below.

What is the predicted yield for each of the two investments? What is the yield spread between the two?

Bond Type	Rate	Corporate Bond Yield Spread = (DRP+LP)
U.S Treasury	.87	0%
AAA Corporate	.97	.14%
AA Corporate	1.36	.53%
A Corporate	1.75	.92%

Reference no: EM132004580

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