A zero coupon bond issued by Corporation A has a residual maturity of 2 years, an...
A zero coupon bond issued by Corporation A has a residual maturity of 2 years, an expected return in continuous compounding equal to 3.12% and a face value of 1,000 USD. Knowing that the corporate bond is risky (hence the company can default) but bears no systematic risk, what is the risk-free rate in discrete annual compounding for a two-year investment?
(a) 3.17%
(b) 3.12%
(c) 3.00%
(d) Since the bond is risky it cannot be determined.
The correct answer is A
(Thumb up for correct step-by-step solution. Many thanks)
Homework Answers
| Price with continuous compounding = 1000/e^(0.0312*2) = 1000/1.06439 = | $ 939.51 |
| Risk free rate with discrete compounding = (1000/939.51)^(1/2)-1 = | 3.17% |
| Answer: Option [A] |
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