An investor is looking at two bonds. The first is a Treasury bond that has an annual coupon rate of 5%, matures in 10 years and with a $1,000 par value. The second is zero-coupon bond with a 3% yield to maturity that matures in 10 years. The market rate of interest is currently at 3%.

a) Compute the current price of the coupon-bearing Treasury bond? (15 pts)

b) Interest rates are forecast to rise by 50 basis points (0.5%) over the next year. Compute the rate of return on the coupon-bearing Treasury bond? (15 pts)

c) If instead, interest rates decline by 50 basis points, should you invest in the zero-coupon bond or the coupon-bearing Treasury bond and why? Show calculations. (20 pts)