Question: 1. If a company experiences a decrease in their credit rating, what is the likely effect on the yield on their long term bonds? A.

1. If a company experiences a decrease in their credit rating, what is the likely effect on the yield on their long term bonds?

A. The yield will decrease due to the maturity risk premium

B. The yield will increase due to the maturity risk premium

C. The yield will decrease due to the default risk premium

D. The yield will increase due to the default risk premium

2. Suppose that the real risk-free rate of interest is 2%. Inflation is expected to be 5% this year and 3% thereafter. The maturity risk premium is 0.2%(t-1), where t is the number of years until maturity. The default risk premium is 2.5%. The liquidity premium is 0%. What is the nominal interest rate on a 4-year bond?

A. 19.1%

B. 8.1%

C. 8.6%

D. 5.8%

3. What will happen to a yield curve if there is an increase in the real risk free rate of interest?

A. The yield curve slope will increase

B. The yield curve will shift down

C. The yield curve will shift up

D. The yield curve slope will decrease

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