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    annavk's Avatar
    annavk Posts: 1, Reputation: 1
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    #1

    Sep 15, 2008, 09:04 PM
    Default risk premium on the corporate bond
    A Treasury bond that matures in 10 years has a yield of 6%. A 10 year corporate bond has a yield of 9%. Assuming that the liquidity premium on the corporate bond is 0.5%? What is the default risk premium on the corporate bond?

    Thank you,
    Elena
    kbetenson82's Avatar
    kbetenson82 Posts: 1, Reputation: 1
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    #2

    Sep 18, 2009, 01:52 PM
    2.5%, I am still working on how to get this answer. I just know its right cause I have the answer key in the back of the book. Hopefully this will help you to find the right equation.
    rehmanvohra's Avatar
    rehmanvohra Posts: 739, Reputation: 27
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    #3

    Sep 20, 2009, 05:55 AM

    Just a guess: 9 - 6 - 0.5 = 2.5%.
    morgaine300's Avatar
    morgaine300 Posts: 6,561, Reputation: 276
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    #4

    Sep 20, 2009, 08:47 PM

    I'd have to guess that rehmanvohra's guess is right.

    Interest starts with the so-called "risk-free" rate and then starts adding risks to it. Which risks are added depends on what it is, who it is, how long it is, etc. I don't remember all those risks and how they're done -- I just remember the basic concept.

    All of those risks should be in your book. Since you only have a limited number of percents given, it stands to reason that your answer is the difference between the bond's rate and the other numbers you have.
    moss4u's Avatar
    moss4u Posts: 1, Reputation: 1
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    #5

    Apr 3, 2011, 12:30 AM
    r=r*+IP+DRP+LP+MRP
    rT-10=r*+IP+DRP+LP+MRP=6%
    we know that treasury bills default risk=0 means have no risk of default
    we also know that
    DRP=LP if DRP=0 then LP=0
    so
    rT-10=r*+IP+MRP=6%
    yield on 10 year corporate bond
    rc-10=r*+IP+DRP+LP+MRP=9%
    since both bonds are for 10 year so MRP&IP are the same
    the difference is that corporate bond have tendency of Default risk and LP
    LP=0.5% given
    rc-10=r*+IP+MRP+0.5%+DRP=9%
    we know that
    r*+IP+MRP=6% put in above equation
    rc-10=6%+0.5%+DRP=9%
    rc-10=9%-6.5%=DRP
    DRP=2.5%
    cereal's Avatar
    cereal Posts: 1, Reputation: 1
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    #6

    Oct 17, 2012, 01:20 PM
    CORPORATE BOND = corporate bond yield - treasury bond yield
    = DRP + LP

    CORPORATE BOND = 9-6
    CORPORATE BOND= 3

    DRP+ .5=3
    DRP= 2.5
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