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3. Calculating interest rates The real risk-free rate (**) is 2.8% and is expected to remain constant. Inflation is expected to be 4% per year

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3. Calculating interest rates The real risk-free rate (**) is 2.8% and is expected to remain constant. Inflation is expected to be 4% per year for each of the next five years and 3% thereafter The maturity risk premium (MRP) is determined from the formula: 0.1(t-1)%, where t is the security's maturity. The liquidity premium (LP) on all Nitreca Chemicals Inc.'s bonds is 0.55%. The following table shows the current relationship between bond ratings and default risk premiums (DRP): Rating Default Risk Premium U.S. Treasury AAA 0.60% AA 0.80% A 1.05% BBB 1.45% Nitreca Chemicals Inc. issues ten-year, AA-rated bonds. What is the yield on one of these bonds? Disregard cross-product terms; that is, if averaging is required, use the arithmetic average. O 7.65% O 8.55% O 8.00% 05.05% Based on your understanding of the determinants of interest rates, if everything else remains the same, which of the following will be true? O An AAA-rated bond has less default risk than a BB-rated bond. The yield on an AAA-rated bond will be higher than the yield on a BB-rated bond

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