If there is a significant risk that the firm will default on its obligation,________ of the firm's debt,which is promised return,will ________ investors' expected return.
A) the risk level; overstate
B) the yield to maturity; understate
C) the risk level; understate
D) the yield to maturity; overstate

Question

Quizplus · Accepted Answer

The yield to maturity (promised return) will overstate investors' expected return if there is a significant risk that the firm will default on its obligation. This is because the yield to maturity assumes that the firm will make all payments on time and in full, but if there is a risk of default, then investors may not receive the promised return.

If There Is a Significant Risk That the Firm Will