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Assume all bonds have a face value of $100 and that all securities
are default-risk free. All cash flows occur at the end of the year to which they relate.
you observe the following: a 2-year coupon bond
paying 10% annual coupons with a market price of $97, and two annuities that
are trading at the same market price as each other. The first annuity matures in 3
years and pays annual cash flows of $20, while the second annuity pays annual
cash flows of $28 and matures in 2 years. Using this information:
i.
Complete the term structure of interest rates, i.e. determine the one- and
two-year discount factors, d1 and d2, respectively.
ii.
Determine the price of the annuities.
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