The yield to maturity on otherwise identical option-free bonds issued by the U.S. Treasury and General Motors is 6% and 8%, respectively. If annual inflation is expected to remain steady at 2.5% over the life of the bonds, the most likely explanation for the difference in yields is: A. liquidity. B. maturity. C. default risk. D. business risk. WHY?? Rachel Kelly, age 24, is planning for retirement. Kelly’s annual consumption expenditures are currently $30,000. She assumes her consumption expenditures will increase with the rate of inflation, which she expects to average 3% until she retires at age 68. Given a life expectancy of 83 years and constant expenditures in retirement, the amount Kelly must accumulate by her retirement date, assuming an 8% rate of return on her retirement account, is closest to: A. $320,000. B. $423,000. C. $1,176,000. D. $1,552,000. WHY??
C. default risk. “most likely” considering treasury securities are default-free and GM’s bonds are not the 2nd one the answer is ‘C’ - this is a mistake on the CFAi part, i think the explanation was they discounted using 25 years instead of 15
can you explain tha calculation for 2nd question
D) i.e. credit risk is the risk the credit will deteriorate and the borrower will violate indenture covenants and have a “technical default”, although default risk is the next in line of this list since the next step would be failure to make payment and an “event of default”
shahravi123 Wrote: ------------------------------------------------------- > The yield to maturity on otherwise identical > option-free bonds issued by the U.S. Treasury and > General Motors is 6% and 8%, respectively. If > annual inflation is expected to remain steady at > 2.5% over the life of the bonds, the most likely > explanation for the difference in yields is: > > A. liquidity. > B. maturity. > C. default risk. > D. business risk. WHY?? > C it is i think. GM can default on its debt, esp b/c auto mfg is CYCLICAL. If sales variability stinks, they may not be able to pay off creditor with their operating cash. Either they reneg on the debt (deafult) or renegotiate, or raise more capital (which will hit CFF on the smtmt of CF to the upside)
here is the explanation The Time Value of Money,” Richard A. Defusco, Dennis W. McLeavey, Jerald E. Pinto, and David E. Runkel 2008 Modular Level I, Vol. 1, pp. 172-174 Study Session 2-5-b explain an interest rate as the sum of a real risk-free rate, expected inflation, and premiums that compensate investors for distinct types of risk The difference in yield on otherwise identical U.S Treasury and corporate bonds is attributed to default risk.