Rating agenciessuch as Standard & Poors Corporation(S&P), Moodys Investor Service, and Fitch Ratingsassign credit ratings to bonds based on both quantitative and qualitative factors. These ratings are considered indicators of the issuers default risk, which impacts the bonds interest rate and the issuers cost of debt capital.

Based on these ratings, bonds are classified into investment-grade bonds and junk bonds. Which of the following bonds is likely to be classified as a junk bond?

A bond with a BBB rating, a 14% return on capital, a 42% total debt to total capital, and a 10% yield.

A bond with a B rating, an 11% return on capital, a 87% total debt to total capital, and a 26% yield.

You heard that rating agencies have upgraded a bonds rating. The yield on the bond is likely to , and the bonds price will .

Assume you make the following investments:

	A $10,000 investment in a 10-year T-bond that yields 6.50%, and
	A $20,000 investment in a 10-year corporate bond with an A rating and a yield of 8.20%

Based on this information, and the knowledge that the difference in liquidity risk premiums between the two bonds is 0.30%, what is your estimate of the corporate bonds default risk premium?

2.38%

1.70%

1.96%

1.40%