Question

Suppose Baa-rated bonds currently yield 6.2%, while Aa-rated bonds yield 4.2%. Now suppose that due to an increase in the expected inflation rate, the yields on both bonds increase by 1.0%. What would happen to the confidence index? (Round your answers to 4 decimal places.)

Answer 1

Solution:-

Confidence index = Yield on high grade bonds / yield on low grade bonds

Confidence index = 4.2%/6.2%= 0.6774

Confidence index after inflation= (4.2%+ 1.0%) / ( 6.2%+1.0%) = 0.7222