Green Triangle company, a Baa-rated company, has a market credit spread of 120 basis points on a five-year bond. The recovery rate is 40%.

a. What is the average hazard rate per year over five years using credit spreads?

b. What is the expected risk premium earned by bond traders?

c. What factors can help to explain the magnitude of the expected risk premium calculated in part b?

d. What is the average hazard rate per year over the five years using the data from table 19.1?

TABLE 19.1 Time (years) Aa Average Cumulative Default Rates (%), 19702013 1 2 3 4 5 7 10 15 20 0.000 0.013 0.013 0.037 0.104 0.241 0.489 0.910 1.073 0.022 0.068 0.136 0.260 0.410 0.682 1.017 1.871 3.167 0.062 0.199 0.434 0.679 0.958 1.615 2.759 4.583 7.044 0.174 0.504 0.906 1.373 1.862 2.872 4.623 8.306 11.969 1.110 3.071 5.371 7.839 10.065 13.911 19.323 28.500 35.410 3.904 9.274 14.723 19.509 23.869 31.774 40.560 50.275 55.892 15.894 27.003 35.800 42.796 48.828 56.878 66.212 73.152 74.946 Baa Ba Caa-C Source: Moody's. TABLE 19.1 Time (years) Aa Average Cumulative Default Rates (%), 19702013 1 2 3 4 5 7 10 15 20 0.000 0.013 0.013 0.037 0.104 0.241 0.489 0.910 1.073 0.022 0.068 0.136 0.260 0.410 0.682 1.017 1.871 3.167 0.062 0.199 0.434 0.679 0.958 1.615 2.759 4.583 7.044 0.174 0.504 0.906 1.373 1.862 2.872 4.623 8.306 11.969 1.110 3.071 5.371 7.839 10.065 13.911 19.323 28.500 35.410 3.904 9.274 14.723 19.509 23.869 31.774 40.560 50.275 55.892 15.894 27.003 35.800 42.796 48.828 56.878 66.212 73.152 74.946 Baa Ba Caa-C Source: Moody's