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(b) An investor is considering two investments. The first investment is a perpetuity that pays 500 at the end of each odd year and 750
(b) An investor is considering two investments. The first investment is a perpetuity that pays 500 at the end of each odd year and 750 at the end of each even year. The second in- vestment is a growing annuity that pays 400 at the end of the year, has an annual growth rate of 2% and has a final payment in 50 years. The term structure is flat at 5% per year. Which investment should the investor choose? Explain. (5 marks) (C) You are a bond trader and observe that the current one-year spot rate is 2% and the current two-year spot rate is 4%. If the term structure stays the same for a year, what is the one- year return on a default-free two-year 15% annual coupon bond with a par value of 1000? [5 marks] (d) When there is an increase in the short-term interest rate, does it have a greater effect on longer-term government bond prices or on shorter-term government bond prices, holding everything else constant? Explain. [5 marks] (b) An investor is considering two investments. The first investment is a perpetuity that pays 500 at the end of each odd year and 750 at the end of each even year. The second in- vestment is a growing annuity that pays 400 at the end of the year, has an annual growth rate of 2% and has a final payment in 50 years. The term structure is flat at 5% per year. Which investment should the investor choose? Explain. (5 marks) (C) You are a bond trader and observe that the current one-year spot rate is 2% and the current two-year spot rate is 4%. If the term structure stays the same for a year, what is the one- year return on a default-free two-year 15% annual coupon bond with a par value of 1000? [5 marks] (d) When there is an increase in the short-term interest rate, does it have a greater effect on longer-term government bond prices or on shorter-term government bond prices, holding everything else constant? Explain. [5 marks]
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