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Treasury Bills: Valuation, Interest Rate Impact, and Liquidity Analysis

This assignment covers the valuation of treasury bills and analyzes how interest rates and liquidity affect their pricing.

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Treasury Bills: Valuation, Interest Rate Impact, and Liquidity Analysis1.A corporate bond has atime to maturity of 15 years, acoupon rate of 4% paid semiannually, andapar value of $1,000.(a) Given that therisk-free rate is0.5%and therisk premium is 2%, calculate the required rate ofreturn and determine thevalue of the bondusing semiannual compounding.(b) If therisk-free rate declines by 25 basis points, recalculate the required rate of return anddetermine thenew value of the bond.(c) Explain the impact of the interest rate decline on the bond's value.Answer:1)Given that,Time to maturity=15 yearsCoupon rate=4% paid semiannuallyPar value=$1,000(a)We have,Risk free rate=0.5%Risk premium=2%Therefore,𝑅𝑒𝑞𝑢𝑖𝑟𝑒𝑑𝑟𝑎𝑡𝑒𝑜𝑓𝑟𝑒𝑡𝑢𝑟𝑛=0.5%+2%=2.5%For semiannual compounding:Coupon payment=$1000*(4%/2)=$20Number of payments=15*2=30Required rate of return=2.5%/2=1.25%Now,𝑉𝑎𝑙𝑢𝑒𝑜𝑓𝑏𝑜𝑛𝑑=∑$20(1+1.25%)𝑡30𝑡=1+$1000(1+1.25%)30=$1,186.67(b)If interest rate declines by 25 basis point:Risk free rate=0.5%-0.25%=0.25%𝑅𝑒𝑞𝑢𝑖𝑟𝑒𝑑𝑟𝑎𝑡𝑒𝑜𝑓𝑟𝑒𝑡𝑢𝑟𝑛=0.25%+2%=2.25%For semiannual compounding:Required rate of return=2.25%/2=1.125%And,

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