Question

The government issues a Treasury Note with a real risk-free rate is 3.5%, and inflation is expected to be 2% for the next 3 years. A 2-year Treasury note yields 6.7%. What is the maturity risk premium for the 3-year security? *

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Answer 1

1.2%

Step-by-step explanation:

Maturity risk premium is extra return that an investor receives on investment in the bonds with longer maturity. It is offered to the investors in order to compensate the risk faced by them due to longer period to maturity.

Formula for the risk premium

Maturity risk premium = Treasury note yield - Real risk-free rate - Inflation

As per given data

Treasury note yield = 6.7%

Real risk-free rate = 3.5%

Inflation = 2%

Placing values in the formula

Maturity risk premium = 6.7% - 3.5% - 2%

Maturity risk premium = 1.2%