Consider the case of five possible rating states, A, B, C, D, and E. A, B, and
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Consider the case of five possible rating states, A, B, C, D, and E. A, B, and C are initial bond ratings, D symbolizes first-time default, and E indicates default in the previous period. Assume that the transition matrix ? is:
A 10-year bond issued today at par with an A rating is assumed to bear a coupon rate of 7%.
? If a bond is issued today at par with a B rating and with a recovery percentage of 50%, what should be its coupon rate so that its expected return will also be 7%?
? If a bond is issued today at par with a C rating and with a recovery percentage of 50%, what should be its coupon rate so that its expected return will be 7%?
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To answer these questions we will use the formula for calculating the expected return on a bond Expected return Coupon payment Par value Market price ...View the full answer
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