Question

Year 1 Year Forward Rate

1 5.8%

2 6.4%

3 7.1%

4 7.3%

5 7.4%

Given the yield on a 3-year zero-coupon bond is 7% and forward rates of 6% in year 1 and 6.5% in year 2, what must be the forward rate in year 3? (12 points)