To answer this question, please start by builiding and calibrating a $10-$period Black$-$Derman$-$Toy model for the

short$-$rate, $r_{i,j}.$ You may assume that the term$-$structure of interest rates observed in the market place is:

Period $1,2,3,4,5,6,7,8,9,10$

Spot Rate $3\mathrm{.}0\%,3\mathrm{.}1\%,3\mathrm{.}2\%,3\mathrm{.}3\%,3\mathrm{.}4\%,3\mathrm{.}5\%,3\mathrm{.}55\%,3\mathrm{.}6\%,3\mathrm{.}65\%,3\mathrm{.}7\%$

As in the video modules, these interest rates assume per$-$period compounding. For example, the market$-$price of a

zero$-$coupon bond that matures in period $6$ is $Z_0^6=\frac{100}{(1+\mathrm{.}035{)}^6}=81\mathrm{.}35$ assuming a face value of $100.$

Assume $b=0\mathrm{.}05$ is a constant for all $i$ in the BDT model as we assumed in the video lectures. Calibrate the $a_i$

parameters so that the model term$-$structure matches the market term$-$structure. Be sure that the final error

returned by Solver is at most ${10}^{-8}.($This can be achieved by rerunning Solver multiple times if necessary, starting

each time with the solution from the previous call to Solver.$)$

Once your model has been calibrated, compute the price of a payer swaption with notional $$1M$ that expires at

time $t=3$ with an option strike of $0.$ You may assume the underlying swap has a fixed rate of $3\mathrm{.}9\%$ and that if

the option is exercised then cash$-$flows take place at times $t=4,$dots,$10.($The cash$-$flow at time $t=i$ is based

on the short$-$rate that prevailed in the previous period, i$.$e$.$ the payments of the underlying swap are made in

arrears.$)$

Submission Guideline: Give your answer rounded to the nearest integer. For example, if you compute the answer

to be $10,456\mathrm{.}67,$ submit $10457.$

To answer this question, please continue using the calibrated model from the last question.

Repeat the previous question but now assume a value of $b=0\mathrm{.}1.$

Submission Guideline: Give your answer rounded to the nearest integer. For example, if you compute the answer

to be $10,456\mathrm{.}67,$ submit $10457.$

E$1$