Question

Problem 6-2 Determinants of Interest Rates for Individual Securities (LG6-6) You are considering an investment in 30-year bonds issued by Moore Corporation. The bonds have no special covenants. The Wall Street Journal reports that 1 -year T-bills are currently earning 2.00 percent. Your broker has determined the following information about economic activity and Moore Corporation bonds:

Real risk-free rate =0.60%
Default risk premium =1.90%
Liquidity risk premium =1.40%
Maturity risk premium -2500.
A. What is the inflation premium? (Round your answer to 2 decimal places.)

Answer 1

The inflation premium for the bonds is 1.40%.

Step-by-step explanation:

The inflation premium is the additional return that investors require to compensate for the expected decrease in purchasing power of money due to inflation. To calculate the inflation premium, we need to subtract the real risk-free rate from the market interest rate. In this case, the market interest rate is 2.00% and the real risk-free rate is 0.60%, so the inflation premium is 2.00% - 0.60% = 1.40%.