Suppose the real risk$-$free rate is $2\mathrm{.}9\%,$ the average future inflation rate is $1\mathrm{.}2\%,$ a maturity premium of $0\mathrm{.}08\%$ per year to maturity applies, i$.$e$.,$ MRP $=0\mathrm{.}08\%(t),$ where $t$ is the years to maturity. Suppose also that a liquidity premium of $0\mathrm{.}9\%$ and a default risk premium of $1\mathrm{.}1\%$ applies to A$-$rated corporate bonds. How much higher would the rate of return be on a $10-$year A$-$rated corporate bond than on a $5-$year Treasury bond. Here we assume that the pure expectations theory is NOT valid.

$1\mathrm{.}80\%$

$2\mathrm{.}40\%$

$1\mathrm{.}60\%$

$2\mathrm{.}20\%$

$2\mathrm{.}00\%$