A bond will pay off $100 with probability 99%, and nothing with probability 1% next year. The
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A bond will pay off $100 with probability 99%, and nothing with probability 1% next year. The equivalent appropriate expected rate of return for risk-free bonds is 5%.
(a) What is an appropriate promised yield on this bond today?
(b) The borrower believes the probability of payoff is 100%. How much money does he believe he has to overpay today?
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