Question

If the 10-year Treasury bond rate is 9.0%, the inflation premium is 2.0% and maturity risk premium on 10-year bond is .3%:

2. Why would an investor purchase a treasury bond, versus a technical corporate stock like Apple or Netflix? Please advise in detail.

3. If an investment has a high standard deviation, what does this tell the investor?

4. How does inflation affect interest rates on bonds and other types of debt securities? Please advise.

Answer 1

Answer:

1. Reasons for preferences for bond over stock because in case of an investment grade rated bonds the risk of a loss of principal is generally small & compared to stocks bonds provide consistent income because of their periodic coupon payments. Investing in US treasury securities are less risky compared to stocks that are prone to greater volatility. And investors who want to avoid risk entirely need to stick with safe investments like money markets, CDs, and bonds, which mean avoiding stocks altogether.
2. SD measures the dispersion of the dataset relative to its mean. A high standard deviation indicates a volatile stock while the deviation of stable stock is rather less. Standard deviation is a tool used to quantify how risky an investment is. A person who wants to invest in high risk high return securities can tolerate high SD by adding small cap stocks or high yield bonds. Actively monitoring a portfolio’s standard deviations and making adjustments will allow investors to tailor their investments to their personal risk attitude.
3. Inflation is the worst enemy for bonds or any other securities. Higher the current & future inflation rates higher the yields across the curve as investors would demand for high yield to compensate for inflation risk.

Investors in financial assets like stocks and bonds are always worried about inflation, because it erodes the buying power of whatever money they make on those investments. If you make 3 percent on an investment, but inflation is also at 3 percent, your real return is zero. The other reason is that higher inflation usually brings higher interest rates in response, from both the Fed (which sets short-term rates) and the bond market (which governs long-term rates.)

Hello student,

In the beginning you have given some problem information, should it be solved? What is the question to be solved for the problem? Thanks