A) Stern Inc's 5-year bonds yield 7.50% and 5-year T-bonds yield 4.50%. The real risk-free rate is r* = 2.5%, the default risk premium for GW Inc's bonds is DRP = 0.40%, and the inflation premium (IP) is 1.5%. What is the maturity risk premium (MRP) on 5-year bonds?
B) The real risk-free rate, rf*, is 3 percent. Inflation is expected to average 2 percent a year for the next three years, after which time inflation is expected to average 3.5 percent a year. Assume that there is no maturity risk premium. A 7-year corporate bond has a yield of 7.6 percent. Assume that the liquidity premium on the corporate bond is 0.4 percent. What is the default risk premium on the corporate bond?