If you have just purchased a 4-year zero coupon bond,what would be the expected rate of return on your investment in the first year if the implied forward rates stay the same? (Par value of the bond = $1,000)

Question

Quizplus · Accepted Answer

A zero coupon bond does not make any periodic interest payments, instead it is issued at a discount to its face value and the investor receives the full face value at maturity. The return on investment in a zero coupon bond is the difference between the purchase price and the face value.

Given that the bond has a maturity of 4 years and is a zero coupon bond, we can use the implied forward rates for the corresponding periods to calculate the expected rate of return.

Assuming the implied forward rates do not change, the 1-year implied forward rate for a 3-year zero coupon bond is 3%. Therefore, the expected rate of return for the first year on the 4-year zero coupon bond would also be 3%.

Hence, the correct answer is B)3%.

If You Have Just Purchased a 4-Year Zero Coupon Bond,what