During the recession in mid-2009, homebuilder KB Home had outstanding 7-year bonds with a yield to maturity of 8.6 % and a BB rating. If corresponding risk-free rates were 2.6 %, and the market risk premium was 5.4 %, estimate the expected return of KB Home's debt using two different methods. How do your results compare? (Note: the average loss rate for unsecured debt is about 60 %.

See annual default rates by debt rating here and average debt betas by rating and maturity here

A Data Table - X TABLE 12.2 Annual Default Rates by Debt Rating (1983-2011)14 Rating: AAA AAA BBBBB B CCC CC-C Default Rate: Average 0.0% 0.1% 0.2% 0.5% 2.2% 5.5% 12.2% 14.1% In Recessions 0.0% 1.0% 3.0% 3.0% 8.0% 16.0% 48.0% 79.0% Source: "Corporate Defaults and Recovery Rates, 19202011," Moody's Global Credit Policy, February 2012. Print Print Done Done A Data Table TABLE 12.3 Average Debt Betas by Rating and Maturity 15 By Rating A and above BBB BB B CCC Avg. Beta 15 Year Avg. Beta 0.01 0.06 0.07 0.14 Source: S. Schaefer and I. Strebulaev, "Risk in Capital Structure Arbitrage, Stanford GSB working paper, 2009. Print Done