A portfolio manager considers two industrial bonds for a one-year investment: The manager observes a historical annual
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A portfolio manager considers two industrial bonds for a one-year investment:
The manager observes a historical annual default probability of 0.27% for A2 rated issuers and 3.19% for B2 rated issuers and assumes a 40% recovery rate for both bonds.
Compute the estimated excess return for each bond assuming no change in spreads, and interpret whether the B rated bond spread provides sufficient compensation for the incremental risk.
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