1. Zeros, Bonds and No-arbitrage Pricing - 30 Points Suppose t = 0 and we...
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1. Zeros, Bonds and No-arbitrage Pricing - 30 Points Suppose t = 0 and we have the following zero prices for years 1, 2, and 3: P1 = 0.980, P2 = 0.950, P3 = 0.910 (a) What are the discount factors for the periods 0, 11, 0, 2, and 0,3]? (b) What are the annually compounded interest rates for the periods [0, 1], [0, 2], and (0, 3)? (c) What are the continuously compounded interest rates for the periods (0,1), 0,2), and (0,3? (d) Consider a claim A with the cash flow: K1 = 10, K2 - 20, K3 = 30 what is the no-arbitrage price PA of this security at time-O? (e) Consider a 3 year fixed coupon bond B that pays coupons $50 at years 1, 2, and 3 with the face value of $1000. What is the no-arbitrage price Ps of this security at time-o? (f) Suppose there is a 2 year fixed coupon bond C that pays coupons $80 at years 1 and 2 with the face value of $1000 and it is traded at a price $1109.4. Is this security underpriced or overpriced? Using only zeros for years 1, 2 and security C, find a portfolio which generates $1 million profit initially with zero payout at all future dates, 1
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