CFA Practice Question

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CFA Practice Question

In an uncertain world, two factors complicate interest rates, namely ______.

A. inflation premium and risk
B. opportunity cost and risk
C. inflation and risk
Correct Answer: C

User Contributed Comments 12

User Comment
nimmala100 uncertain means risky and ofcourse inflation is also aun certainity (percentage of inflation)
Nathan Is it germane to require the distinction between "inflation premium" and "inflation," so that A is not also a good answer? ... The component of the interest rate is also referred to as the "inflation premium."
khanhpb I was at first confused at inflation premium and inflation but 2 terms can be different because inflation here can be positive and negative, and normally it is risk that requires premium. Am i right? Please comment. thks
myzec I think premium suggests 'extra' so an inflation premium would be the portion of the inflation that is above another benchmark. Like risk premium is the extra return you get for additional risk. Its not the full return just the extra to compensate for risk. So I would think inflation premium is not the same as inflation.
bobert Think of it this way. If you were explaining to someone what the it is called when money is being devalued over time, you would not call it inflation premium. It would just be inflation. Conversely if you were taking all the parts of the interest rate you dont add inflation to it. I think the word premium is more-so an adjective in this sense. Inflation premium and inflation can be the same thing I suppose, but that is not always true. An inflation premium is additional value added to the interest rate. Inflation is what lowers the value of money. Hope this helps.
happy123 When say inflation and risk complicate interest rate, is it saying that these two factors causing interest rate to change?
aliqatari As we learn, the nominal interest rate can be calculated as simple as that: Real rate + Inflation rate.
eniben I think inflation premium is what the lender will demand to cushion/counteract the effects of inflation. The risk premium likewise for the possibility that the borrower will default.
alester83 the question is not explictly asking how an investor needs to be compensated, which is how you define the premium adjustments. the question is asking for factors. hope that helps clarify for you.
johntan1979 Inflation premium is a RESULT of the inflation FACTOR
carsonson So.... the interest FACTOR is affected by the inflation FACTOR, not premium
Stacerz02 Uncertain isn't necessarily risky.... it could be good or bad... nothing is 100% certain, sort of like life.
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