exercise_topic_01 - U NIVERSITY OF E SSEX D EPARTMENT OF E...

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UNIVERSITY OF ESSEX DEPARTMENT OF ECONOMICS Session 2011–12 R. E. Bailey EC372 Economics of Bond and Derivatives Markets Exercise 1: Bond Markets and Fixed Interest Securities 1. Define the yield to maturity on a coupon-paying bond with n years to maturity. Hence, explain why the concept of ‘yield to maturity’ on a zero-coupon bond is easier to interpret than for a coupon-paying bond. 2. Suppose that you expect the one-period interest rate between 5 and 6 years into the future to be 10%, and that you observe that the price of zero-coupon bonds with 5 and 6 years to maturity to be $73.50 and $70, respectively. (The face value of the bonds is $100.) Design a strategy for trading in these bonds which would yield a positive expected return at the end of 6 years. What considerations would determine whether you undertake the strategy and, if you do, on what scale? 3. Two zero-coupon (ZC) bonds, labelled N and R will each mature 5 years from today. At maturity, bond N pays $100. At maturity, bond
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This note was uploaded on 03/15/2012 for the course EC 372 taught by Professor R.e.bailey during the Spring '12 term at Uni. Essex.

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