Question
Consider two assets with the following cash flow streams: Asset A generates $4 at t=1, $3 at t=2, and $12 at t=3. Asset B generates
Consider two assets with the following cash flow streams: Asset A generates $4 at t=1, $3 at t=2, and $12 at t=3. Asset B generates $2 at t=1, $X at t=2, and $12 at t=3. Suppose X=6 and the interest rate r is constant. (a) For r=0.2, calculate the present value of the two assets. (b) Determine the set of all interest rates {r} such that asset A is more valuable than asset B. (c) Draw the present value of the assets as a function of the interest rate. (d) Suppose r=0.3. Find the value X such that the present value of asset B is 10. (e) Suppose the (one-period) interest rates are variable and given as follows: r01=0.1, r12=0.2, r23=0.3. Calculate the yield to maturity of asset A. (You can use Excel or a scientific calculator to find the solution numerically.)
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