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##### In this problem all interest rates are compounded continuously, all bonds mature and pay

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Question;In this problem all interest rates are compounded;continuously, all bonds mature and pay their coupons annually on the first of;January and the date of trade is January 1st 2015 just after thr. coupon. Here;are the market prices for the bonds, assume no bid/ask spread for the purpose;of this question.;BOND DATA;maturity 1/1/16 1/1/17 1/1/18 1/1/19 1/1/20;Coupon 5.5 8.25 2 7;Price 105 114.5 98 87.5 101.5;I. Compute the discount factors implied by the market to;each maturity date.;2. Plot the term structure of interest rates implied by the;market. Comment on the 51-cape of this curve and give two explanations for why;this particular shape might happen.;3. Fit a quadratic line of best fit through the rates as a.;function of matii0t7--;(T) ao ?alT-Fa2T2 to minimize ordinary least squares on the;rates 1fri fi(Ti))2?;4. Fit another;quadratic line of best fit to the rates to minimize the absolute deviation in;bond prices implied by the curve from the true prices ENi !Pi ? Here Pi is the;bond price implied by the rates curve I- (IT) and is the true market price.;Hint - you may want to tu_-e Excel solver.;5 Plot the curves found in (3) and (4) and give an;interpretation of each. Which one do you think is more appropriate for trading;and why?;6. I have a new zero-coupon;bond with maturity 1/1/2034 and I need to find a. price for its first trade.;How could you attempt to price this bond? What price does your method suggest?;What would you do in practice? Comment briefly.

Paper#47624 | Written in 18-Jul-2015

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