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. You read in the Wall Street Journal that the 30-day T-bills are currently yielding 6.4%....

. You read in the Wall Street Journal that the 30-day T-bills are currently yielding 6.4%. Your brother in law, a broker at Safe and Sound Securities, has given you the following estimates of current interest rate premiums: Inflation premium = 3.5% liquidity premium = 0.3% maturity risk premium = 1.7% default risk premium = 2.3% What is r* (real risk free rate of interest)?

A. -1.4%

B. 1.7%

C. 0.3%

D. 2.9%

E. 3.5%

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Answer #1

ANSWER = D. 2.9%

Risk free rate of return= Real risk free rate of return + Inflation premium

Real risk free rate of return = Risk free rate of return - Inflation premium

Real risk free rate of return = 6.4% - 3.5%

Real risk free rate of return = 2.9%

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