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Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250
Textbook Problem

DEFAULT RISK PREMIUM A Treasury bond that matures in 10 years has a yield of 5.75%. A 10-ycar corporate bond has a yield of 8.75%. Assume that the liquidity premium on the corporate bond is 0.35%. What is the default risk premium on the corporate bond?

Summary Introduction

To identify: The default risk premium

Introduction:

Default Risk Premium:

A premium, which is paid by the borrower to the lender in the form of compensation of lender’s money and in regards of default risk, is known as the default risk premium.

Explanation

The items required for the calculation of default risk are corporate yield, Treasury bond yield and liquidity premium.

Given,

The corporate bond yield is 8.75%.

The Treasury bond yield is 5.75%.

The liquidity premium is 0.35%.

Formula to calculate the default risk premium derives from the formula of corporate bond yield,

Corporatebondyield=Treasurybondyield+LP+DRPDRP=Corporatebondyield(

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