lWe assume that lenders know that short-term rates over the next four years will be:

year 1: 8 per cent

year 2: 10 per cent

year 3: 11 per cent

year 4: 12 per cent

lThen, Br1,000 invested in a one-year bond, with the proceeds being invested in a further one-year bond in the subsequent years, will produce the following results:

Principal Interest rate Interest Capital + interest

year 1 Br1,000 8 per cent Br80 Br1,080

year 2 Br1,080 10 per cent Br108 Br1,188

year 3 Br1,188 11 per cent Br131 Br1,319

year 4 Br1,319 12 per cent Br158 Br1,477

Exercise: Calculate the interest rates on two-year, three-year and four-year bonds.