Question

Question 2 3.75 pts You buy a bond for $1000 today that promises interest of $100 in one year plus the return of your principal. However, the probability that the company will default and not pay you either interest nor repay your principal is 5 percent. The expected return on the bond ispercent. O 4.95 O 4.50 O 5.50 O 3.95

Answer 1

EXPECTED VALUE OF BOND AFTER A YEAR = SUM(PROB X RETURN)

EXPECTED VALUE OF BOND AFTER A YEAR = (0.05 X 0) +(0.95 X 1100) = 1045

SO EXPECTED RETURN ON BOND = (1045-1000)/1000 = 4.5%

ANSWER : 4.50 (Thumbs up please)