Consider a 10-year zero-coupon bond with a par value of $1000. Suppose that investors believe that there is a 30% probability that the issuer will default on its debt when the bond matures and if the issuer does default, investors will get 60% of the par value. Further assume investors demand an expected rate of return from investing this bond that is two percentage points higher than the 10-year T-bonds, which currently have a yield of 4.3%. We calculated in class that the price of the bond should be $477.69, and yield should be 7.67%. If investors now expect the default probability to be 40% (while everything else stays the same), what would be the bond's new price and yield? Are they higher or lower compared to before and why

Answer rating: 100% (QA)

New Bond Price and Yield with Increased Default Probability Given Par value face value 1000 Maturity ... View the full answer