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Dakota Corporation 15-year bonds have an equilibrium rate of return of 9 percent. For all...

Question:

Dakota Corporation 15-year bonds have an equilibrium rate of return of 9 percent. For all securities, the inflation risk premium is 1.70 percent and the real interest rate is 3.40 percent. The security's liquidity risk premium is 1.15 percent and maturity risk premium is 1.75 percent. The security has no special covenants.

Calculate the bond's default risk premium

Default risk premium:

Default risk premium is an added fee to interest rate of a loan that compensates investors for the perceived chance that the borrower will fail to pay back the loan.

Answer and Explanation:

The bond's default risk premium is 1%

We are given the following:

  • Bond's rate of return = 9%.
  • Inflation risk premium = 1.70%
  • Real interest rate =...

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How to Calculate Risk Premium: Definition & Formula

from Financial Accounting: Help and Review

Chapter 5 / Lesson 26
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