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3. Calculating interest rates The real risk-free rate (r) is 2.8% and is expected to remain constant. Inflation is expected to be 6% per year for each of the next two years and 5% thereafter. The maturity risk premium (MRP) is determined from the formula: 0.1(t-1)%, wheret is the security's maturity. The Wquidity premium (LP) on all Pellegrini Southern Inc.'s bonds is 1.05%. The following table shows the current relationship between bond ratings and default risk premium (DP): Rating U.S. Treasury Default Risk Premium AAA 0.60% AA 0.80% A 1.059 BBB 1.45% Pellegrini Southern Inc. issues eleven-year, AA-rated bonds. What is the vield on one of these bonds? Disregard cross-product terms that is, ir averaging is required, use the arithmetic average. 9.785 10.83 5.654 9.534 Based on your understanding of the determinants of interest rates everything else remains the same, which of the following will be true Higher inflation expectations increase the nominal Interest rate demanded by investors. A-rated bond has a lower default risk premium as compared to an rated bond 3. Calculating interest rates The real risk-free rate (r") is 2.8% and is expected to remain constant. Inflation is expected to be 6% per year for each of the next two years and 3% thereafter. The maturity risk premium (MRP) is determined from the formula: 0.1t - 19, where is the security's maturity. The liquidity premium (LP) on all Pellegrini Southern Inc.'s bonds is 1.05%. The following table shows the current relationship between bond ratings and default riak premiume (OP) Default Risk Premium Rating U.S. Treasury AAA AA 0.60% 0.80% 1.05% 1.45% A BBB Pellegrini Southern Inc. issues eleven-year, AA-rated bonds. What is the yield on one of these bonds? Disregard cross-product terms; that is, i averaging is required, use the arithmetic average. O 9.78% 10.83% 5.65% 9.83% Based on your understanding of the determinants of interest rates, If everything else remains the same, which of the following will be true? Higher Inflation expectations increase the nominal Interest rate demanded by investors O ABBB-rated bond has a lower default risk premium as compared to an AAA rated bond

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