Assume That Real Risk-Free Rate (R*) = 1

question 40

Multiple Choice

Assume that real risk-free rate (r*) = 1.0%; the maturity risk premium is found as MRP = 0.2% × (t - 1) where t = years to maturity; the default risk premium for AT&T bonds is found as DRP = 0.07% × (t - 1) ; the liquidity premium is 0.50% for AT&T bonds but zero for Treasury bonds; and inflation is expected to be 7%, 6%, and 5% during the next three years and then 4% thereafter. What is the difference in interest rates between 10-year AT&T bonds and 10-year Treasury bonds?

• A) 0.25%
• B) 0.50%
• C) 0.63%
• D) 1.00%
• E) 1.13%

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