Question

The real risk-free rate is 2.05%. Inflation is expected to be 3.05% this year, 4.15% next year, and 2.7% thereafter. The maturity risk premium is estimated to be 0.05 × (t - 1)%, where t = number of years to maturity. What is the yield on a 7-year Treasury note? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

The yield on a 7-year Treasury note is 5.3%.

Step-by-step explanation:

Maturity risk premium (MRP) = 0.05 × (t - 1)%

t = number of years to maturity

Inflation is expected to be:

This year = 3.05%

Next year = 4.15%

Thereafter = 2.7%

Real risk-free rate(r*) = 2.05%

`IP=(0.0305+0.0415+5*0.027)/(7)`

`(0.207)/(7)`

=0.0295

MRP = 0.05(7-1)%

= 0.05(6%)

= 0.003

r = r* + IP+ MRP + DRP + LP

Where,

DRP = 0

LP = 0

= 0.0205 + 0.0295 + 0.003

= 0.053

= 5.3%

Therefore, the yield on a 7-year Treasury note is 5.3%.