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Mandy's Clothes Corp's 10-year bonds are currently yielding a return of 10.25 percent. The expected inflation...

Mandy's Clothes Corp's 10-year bonds are currently yielding a return of 10.25 percent. The expected inflation premium is 3.25 percent annually and the real interest rate is expected to be 2.75 percent annually over the next 10 years. The liquidity risk premium on the bonds is 0.35 percent. The maturity risk premium is 0.25 percent on 2-year securities and increases by 0.05 percent for each additional year to maturity. Calculate the default risk premium on Mandy's Clothes 10-year bonds.

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Answer #1

Nominal Yield on bond = Real risk free rate + Inflation premium + Maturity risk premium + Liquidity premium + Default risk pr

Maturity risk premium = 0.25% + (8 * 0.05%) = 0.65%

10.25% = 2.75% + 3.25% + 0.65% + 0.35% + Default risk premium

Default risk premium = 3.25%

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