The five-year risk free rate of interest is 3.6% and the yield curve is flat. A five-year, 5.5% coupon rate (annual coupons), $1,000 face value bond has a market price of $1,025 today.
a. What is the yield to maturity on the corporate bond? (Careful, this is a multi-period bond and has coupons, so the yield to maturity is the internal rate of return equating the price of the bond to the present value of the coupon payments and principal repayment in the future. To solve for this rate, you would have to either use trial and error, or the RATE function on a financial calculator, or the easiest way is to set the cash flows up in a row in EXCEL, and use the IRR function in EXCEL.)
b. What is the yield spread between this corporate bond and the risk free bond?
c. Can we estimate the bond’s beta risk from this information, using the CAPM equation? (Same answer as above.)