5) Let the six-month interest rate be 8%. To satisfy no-arbitrage, assume the six month rate moves up or down by 25 bp each six-month period with equal probability. Build an interest rate tree and value a two-year, 8.2% callable bond that can be called for par ($100). What is the value of the embedded option?

5) Let the six-month interest rate be 8%. To satisfy no-arbitrage, assume the six month rate moves up or down by 25 bp each six-month period with equal probability. Build an interest rate tree and value a two-year, 8.2% callable bond that can be called for par ($100). What is the value of the embedded option?

EBK CONTEMPORARY FINANCIAL MANAGEMENT

14th Edition

ISBN:9781337514835

Author:MOYER

Publisher:MOYER

Chapter6: Fixed-income Securities: Characteristics And Valuation

Section: Chapter Questions

Problem 4P

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