According to the Liquidity Preference Theory, what is the risk premium for the future 4-year investment?

Please select any one of the following 10 problems and solve it with your detailed steps and calculations.

1. (1) Assume today’6-year rate is 7% and today’s 2-year rate is 6%, Based on unbiased expectation theory, what is the expected 4-year rate at the end of Year 2?

(2) According to the Liquidity Preference Theory, what is the risk premium for the future 4-year investment?

2. (1) Assume today’5-year rate is 6% and today’s 3-year rate is 4.5%, Based on unbiased expectation theory, what is the expected 2-year rate at the end of Year 3?

(2) According to the Liquidity Preference Theory, what is the risk premium for the future 2-year investment?

3. Given the following information,

Real risk-free rate = 0.03

Inflation risk premium = 0.02

Maturity risk premium = 0.045

Default risk premium = 0.035

Liquidity risk premium = 0.03

(1) Using approximation method, what is the real rate of interest?

(2) Using Fisher equation, what is the real rate of interest?

4. Given the following information,

Real risk-free rate = 0.03

Inflation risk premium = 0.02

Maturity risk premium = 0.045

Default risk premium = 0.035

Liquidity risk premium = 0.03

(1) Using approximation method, what is the nominal rate of interest?

(2) Using Fisher equation, what is the nominal rate of interest?

5. Given the following information, can you estimate the nominal rate of interest or yield for ABC. Inc’s 30-year corporate bond?

Inflation rate = 0.015

Real risk-free rate = 0.03

30-year T-bond rate = 0.08

30-year AAA rated corporate rate = 0.085

The liquidity risk premium for ABC’s corporate bond = 0.015

(1) What is nominal risk-free rate?

(2) What is maturity risk premium?

(3) What is default risk premium?

(4) What is real interest rate?

(5) What is the best estimate of the nominal interest rate for ABC’s corporate bond?

(6) According to Fisher effect, what is the nominal rate of interest for ABC’s corporate bond?

6. (1) Assume today’s 7-year rate is 8% and today’s 3-year rate is 6%, Based on unbiased expectation theory, what is the expected 4-year rate at the end of Year 3?

(2) According to the Liquidity Preference Theory, what is the risk premium for the future 4-year investment?

7. (1) Assume today’s 8-year rate is 6.5% and today’s 5-year rate is 5.5%, Based on unbiased expectation theory, what is the expected 3-year rate at the end of Year 5?

(2) According to the Liquidity Preference Theory, what is the risk premium for the future 3-year investment?

8. Given the following information,

Real risk-free rate = 0.025

Inflation risk premium = 0.015

Maturity risk premium = 0.05

Default risk premium = 0.035

Liquidity risk premium = 0.01

(1) Using approximation method, what is the real rate of interest?

(2) Using Fisher equation, what is the real rate of interest?

9. Given the following information,

Real risk-free rate = 0.025

Inflation risk premium = 0.015

Maturity risk premium = 0.05

Default risk premium = 0.035

Liquidity risk premium = 0.01

(1) Using approximation method, what is the nominal rate of interest?

(2) Using Fisher equation, what is the nominal rate of interest?

10. Given the following information, can you estimate the nominal rate of interest or yield for ABC. Inc’s 30-year corporate bond?

Inflation rate = 0.02

Real risk-free rate = 0.025

30-year T-bond rate = 0.07

30-year AAA rated corporate rate = 0.085

The liquidity risk premium for ABC’s corporate bond = 0.02

(1) What is nominal risk-free rate?

(2) What is maturity risk premium?

(3) What is default risk premium?

(4) What is real interest rate?

(5) What is the best estimate of the nominal interest rate for ABC’s corporate bond?

(6) According to Fisher effect, what is the nominal rate of interest for ABC’s corporate bond?

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