Consider the following four debt securities, which are identical in every characteristic except as noted:
W:A corporate bond rated AAAX:A corporate bond rate BBBY:A corporate bond rated AAA with a shorter time to maturity than bonds W and XZ:A corporate bond rated AAA with the same time to maturity as bond Y that trades in a more liquid market than bonds W, X, or YList the bonds in the most likely order of the interest rates (yields to maturity) of the bonds from highest to lowest. Explain your work.
What will be an ideal response?
X, W, Y, ZReasoning: W is rated AAA, X is BBB, so X must have a higher interest rate than W to compensate for the additional default risk; so far: X, W. Y is rated AAA and has a shorter time to maturity than W and X, so it will have a lower interest rate than W because of shorter time to maturity and will have a lower interest rate than X because of less default risk and a shorter time to maturity; so far: X, W, Y. Z trades in a more liquid market than W, X, or Y and has equal or less risk than them, and an equal or less time to maturity, all of which give it the lowest interest rate. Final order: X, W, Y, Z.
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