Answered: The real risk-free rate is 2.5% and…

The real risk-free rate is 2.5% and inflation is expected to be2.75% for the next 2 years. A 2-year Treasury security yields 5.55%. What is the maturityrisk premium for the 2-year security?

Intermediate Financial Management (MindTap Course List)

13th Edition

ISBN:9781337395083

Author:Eugene F. Brigham, Phillip R. Daves

Publisher:Eugene F. Brigham, Phillip R. Daves

Chapter4: Bond Valuation

Section: Chapter Questions

Problem 6P

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Concept explainers

Treasury Market

On-the-run securities are the most recently issued securities in the market depth and are therefore traded at some premium. The off-the-run securities are the ones issued just before the most recent ones. The on-the-run securities have a lower yield to the investor than the off-the-run securities.

Question

The real risk-free rate is 2.5% and inflation is expected to be
2.75% for the next 2 years. A 2-year Treasury security yields 5.55%. What is the maturity
risk premium for the 2-year security?

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