An FI manager purchases a zero-coupon bond that has two years to maturity. The manager paid $826.45 per $1,000 for the bond. The current yield on a one-year bond of equal risk is 9 percent, and the one-year rate in one year is expected to be either 11.60 percent or 10.40 percent. Either rate is equally probable.
-Given the exercise price of the option, what premium should be paid for this option?
A)$2.2339 per $1,000 of bond option purchased.
B)$4.0275 per $1,000 of bond option purchased.
C)$2.2752 per $1,000 of bond option purchased.
D)$2.2156 per $1,000 of bond option purchased.
E)$3.8211 per $1,000 of bond option purchased.

Question

Quizplus · Accepted Answer

The premium is calculated using the expected future interest rates and the bond's price. The expected future rate is the average of 11.60% and 10.40%, which is 11%. The bond's price is calculated using the yield and the expected rate, leading to the premium of $2.2339.

An FI Manager Purchases a Zero-Coupon Bond That Has Two