you read in the Wall Street Journal that 30-days T-bills arecurrently yielding 5
ID: 2770455 • Letter: Y
Question
you read in the Wall Street Journal that 30-days T-bills arecurrently yielding 5.5 percent. Your brother-in-law, a broker atSafe and sound Securities, has given you the following estimates ofcurrent interest rate premiums:* Inflation premium = 3.25% * Liquidity Premium = 0.6% * Maturity risk Premium = 1.8% * Default risk premium = 2.15%
On the basis of these data, what is the real risk-free rate ofreturn?
* Inflation premium = 3.25% * Liquidity Premium = 0.6% * Maturity risk Premium = 1.8% * Default risk premium = 2.15%
On the basis of these data, what is the real risk-free rate ofreturn?
Explanation / Answer
K = requiredreturn (or) yield on debt security
K* = realrisk-free rate of interest
IP = Inflationpremium
DRP = defaultrisk premium
LP = liquiditypremium
5.5% = K*+3.25%+2.15%+0.6%+1.8%
5.5%-3.25%-2.15%-0.6%-1.8% = K*
5.5% - 7.8% = K*
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