Question

Rating agencies such as Standard & Poor's (S&P), Moody's Investor Service, and Fitch Ratings-assign credit ratings to bonds based on both quantitative and qualitative factors. These ratings are considered indicators of the issuer's default risk, which impacts the bond's interest rate and the issuer's cost of debt capital. Based on these ratings, bonds are classified into investment-grade bonds and junk bonds. Which of the following bonds is likely to be classified as a junk bond? A bond with a B rating, an 11% return on capital, a 87% total debt to total capital, and a 26% yield. A bond with a BBB rating, a 14% return on capital, a 42% total debt to total capital, and a 10% yield. O , and You heard that rating agencies have upgraded a bond's rating. The yield on the bond is likely to the bond's price will Assume you make the following investments: • A $10,000 investment in a 10-year T-bond that yields 5.00%, and • A $20,000 investment in a 10-year corporate bond with an BBB rating and a yield of 7.30% Based on this information, and the knowledge that the difference in liquidity risk premiums between the two bonds is 0.30%, what is your estimate of the corporate bond's default risk premium? 0 0 2.00% 3.40% 2.30% 2.80%

Answer 1

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- 2x Σ AutoSum : A -% , 92 - 3 conditional terme et sur Inse Fill 2 Clear Sort & Filter Editing Find & Select BOND - Microsoft Excel (Product Activation Failed) File Home Insert Page Layout Formulas Data Review View Add-Ins * Cut Calibri -11AA = = = Dr Wrap Text General E Copy Paste BI U D- DA Merge & Center - $ % Format Painter , :.: Formatting as Table Styles Clipboard Font Alignment Number Styles HK134 - fax HG HH H HJ H K H L HM HNHO 117 118 ANS 1 FIRST OPTION: A BOND WITH A B RATING IS A JUNK BOND Cells HP HQ HR HS HT 119 120 ANS 2 IF BOND RATINGS ARE UPGRADED 121 122 THE YIELD ON THE BOND IS LIKELY TO FALL (= DECREASE) AND BOND'S PRICE WILL RISE(INCREASE) 123 124 125 10 YEART BOND 10 YEAR CORP BOND DIFFERENCE IN LRP 5.00% 7.30% 0.30% SO THE DRP = DEFAULT RISK PREMIUM = 7.30% - 5.00% = 2.30% -0.30%= 2.00% 126 127 128 129 130 131 132 133 134 135 HEM Rea ANS 3 ANSWER 2.00% YIELD SPOT ferences Sheet2 AFN BANKING NOTE 51 53 CLEAN PRICE $10 BIDDING, UNDERWRITING EUAC AW LIFELP, IP, MRP, INFLATION WARRANT refund 54 55 56 0 BOJ 120% 0 + S E O * 10 ENG 07-11-2019

BOND - Microsoft Excel (Product Activation Failed) Add-Ins File Home Insert Page Layout Formulas Data Review View - 2x % Cut Calibri Dr General -11AA = = = D- DA E E E Wrap Text FMerce Merge & Center - Center BI U s $ 4.0 .00 :.: Insert Delete Format % % , Number Conditional Format Formatting as Table Styles Cell Styles Σ AutoSum : A Fill 2 Sort & Clear Filter Editing Find & Select Font Alignment Cells L AH AI AJ AK AL AM AN AO AP AQ AR E Copy Paste Format Painter Clipboard AN234 A G 231 232 233 234 235 PRICE OF POWELL CO COUPON YTM YEARS PERIODS 4.13% SEMI ANNUAL 6.26% 5 2 236 237 238 FACE VALUE COUPON ($) LAST PRICE 100 4.13 ANNUAL $ 90.98 EXCEL =PV(A1234/A1236,AJ235*A1236,-A1238/AJ236,-A1237) 239 ANS 1 240 241 ANS 2 10 YEAR YIELD ON US TREASURY = 6.2% SEE THE TABLE GIVEN IN SUM, SEE THE LAST COLUMN WE HAVE 2 COMPANIES WITH 10 YEARS MATURITY UNITECH INC YTM = 8.57% ACME INC YTM = 8.37% EST SPREAD = 2.37% EST SPREAD = 2.17% SO BENCHMARK BOND YIELD = 8.57% -2.37% =6.2% SO BENCHMARK BOND YIELD = 8.37% -2.17% -6.2% SO BENCHMARK BOND LD = 9:57% -2,37% =6.2% 242 243 244 245 246 247 248 249 250 251 K Rea WE TOOK SECOND COMPANY TO VERIFY THAT WE ARE CORRECT ANS 3 BOND TRADING AT PREMIUM : ACME INC. (PRICE HIGHER THAN PAR VALUE) Sheet2 AFN BANKING NOTE 51 53 CLEAN PRICE S10 BIDDING, UNDERWRITING EUAC AW LIFELP, IP, MRP, INFLATION WARRANT refund O YIELD SPOT ferences S4 S5 S60 BOU 120% -_- 1 a e 9 $ 55 K W S E O * 10 ENG 07-11-2019