A Treasury bond that matures in 10 years has a yield of 5

Finance Oct 06, 2020

A Treasury bond that matures in 10 years has a yield of 5.75%. A 10-year corporate bond has a yield of 8.75%. Assume that the maturity risk premium on 10-year bond is 2% and the liquidity premium on the corporate bond is 0.45%. What is the default risk premium on the corporate bond?

Expert Solution

Computation of the default risk premium on the bond:-

Corporate bond yield = Treasury bond yield + Default risk premium + Liquidity premium

8.75% = 5.75% + Default risk premium + 0.45%

Default risk premium = 8.75% - 5.75% - 0.45%

= 2.55%

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