Suppose currently 10-year Treasury note offers 2.8% yield and the average yield on investment grade 10-year...

Suppose currently 10-year Treasury note offers 2.8% yield and the average yield on investment grade 10-year corporate bonds is 4.4%. Calculate the risk spread. Predict what will happen to the yields of corporate and treasury bonds as well as the risk spread if the federal government guarantees today that it will pay to bondholders if the corporations go bankrupt in the future.

Expert Solution

Risk spread = Yield on Corporate bond - Yield on Treasury note

Risk spread = 4.4% - 2.8% = 1.6%

If the federal government guarantees today that it will pay to bondholders if the corporations go bankrupt in the future,

1) Risk spread reduces close to 0% as the credit risk on corporate bond becomes equal to that of US govt's T notes

2) Corporate bond yields will reduce as the default risk greatly reduces

3) Now that the US government bears the default risk of these private corporates, the sovereign default risk increases little, and hence, its T note yield increases marginally.

Rahul Sunny answered 2 years ago

Suppose currently 10-year Treasury bond yields 1.2% and 10-year municipal bond offers 0.8% yield. Also, your...

Suppose currently 10-year Treasury bond yields 1.2% and 10-year municipal bond offers 0.8% yield. Also, your federal income tax rate is 40% and state income tax rate is 14%. Calculate the risk premium (spread) of this municipal bond. Show calc and steps

A 2-year Treasury bill currently offers a 22% rate of return. A 3-year Treasury note offers...

A 2-year Treasury bill currently offers a 22% rate of return. A 3-year Treasury note offers a 44% rate of return. Under the expectations theory, what rate of return do investors expect a 1-year Treasury bill to pay 2 year from now? The rate of return investors expect a 1-year Treasury bill to pay 2 years from now is

The December 10-year US Treasury note is currently priced at $127. The following bonds are eligible...

The December 10-year US Treasury note is currently priced at $127. The following bonds are eligible for delivery into the contract with the following conversion factors. Please calculate the delivery prices for each bond ignoring accrued interest: 2% of 11/26 CF=.75 _______________________ 2.25% of 2/27 CF=.76 _______________________ 2.375% of 5/27 CF=.77 _______________________ What additional information do you need to figure out which bond from #4 is the “cheapest-to-deliver?” If you are trading the 10-year Treasury futures contract, why is it...

Suppose that you invest in a 10-year 8% Treasury Note sold at par and the interest...

Suppose that you invest in a 10-year 8% Treasury Note sold at par and the interest rate drops to 6% after your purchase. What will be the Total Dollar Return and the Realized Yield if you hold the bond (a) for 3 years; (b) for 7 years; (c) to maturity. In each case, decompose the Total Dollar Return into (1) Total Coupon Interest; (2) Interest on Interest; (3) Capital Gain / Loss.

Was 10-year Treasury bond called Treasury Bill, Note, or Bond? What was the term ... that...

Was 10-year Treasury bond called Treasury Bill, Note, or Bond? What was the term ... that indicates the situation in which the yield of Treasury bonds sharply decreases because U.S. Treasury bonds are the safest assets? What is the meaning of finance? Is it not a gamble to earn more money using some seed money?

A 5-year Treasury bond has a 3.7% yield. A 10-year Treasury bond yields 7%, and a...

A 5-year Treasury bond has a 3.7% yield. A 10-year Treasury bond yields 7%, and a 10-year corporate bond yields 8.5%. The market expects that inflation will average 3% over the next 10 years (IP10 = 3%). Assume that there is no maturity risk premium (MRP = 0) and that the annual real risk-free rate, r*, will remain constant over the next 10 years. (Hint: Remember that the default risk premium and the liquidity premium are zero for Treasury securities:...

A 5-year Treasury bond has a 4.8% yield. A 10-year Treasury bond yields 6.95%, and a...

A 5-year Treasury bond has a 4.8% yield. A 10-year Treasury bond yields 6.95%, and a 10-year corporate bond yields 9%. The market expects that inflation will average 2.55% over the next 10 years (IP10 = 2.55%). Assume that there is no maturity risk premium (MRP = 0) and that the annual real risk-free rate, r*, will remain constant over the next 10 years. (Hint: Remember that the default risk premium and the liquidity premium are zero for Treasury securities:...

A 5-year Treasury bond has a 4.7% yield. A 10-year Treasury bond yields 6.15%, and a...

A 5-year Treasury bond has a 4.7% yield. A 10-year Treasury bond yields 6.15%, and a 10-year corporate bond yields 8.05%. The market expects that inflation will average 2.25% over the next 10 years (IP10 = 2.25%). Assume that there is no maturity risk premium (MRP = 0) and that the annual real risk-free rate, r*, will remain constant over the next 10 years. (Hint: Remember that the default risk premium and the liquidity premium are zero for Treasury securities:...

A 5-year Treasury bond has a 4.75% yield. A 10-year Treasury bond yields 6.05%, and a...

A 5-year Treasury bond has a 4.75% yield. A 10-year Treasury bond yields 6.05%, and a 10-year corporate bond yields 9.45%. The market expects that inflation will average 2.25% over the next 10 years (IP10 = 2.25%). Assume that there is no maturity risk premium (MRP = 0) and that the annual real risk-free rate, r*, will remain constant over the next 10 years. (Hint: Remember that the default risk premium and the liquidity premium are zero for Treasury securities:...

Interest rates on 6-year Treasury securities are currently 1.72%, while 9-year Treasury securities yield 1.83%. If...

Interest rates on 6-year Treasury securities are currently 1.72%, while 9-year Treasury securities yield 1.83%. If the pure expectations theory is correct, what does the market believe that 3-year Treasury securities will be yielding 6 years from now?

Question