A bank has made a three-year, $ 10 million dollar loan that pays annual interest of 8 percent. The principal is due at the end of the third year.
a. The bank is willing to sell this loan with recourse at an 8.5 percent discount rate. What should it receive for this loan?
b. The bank also has the option to sell this loan without recourse at a discount rate of 8.75 percent. What should it expect for selling this loan?
c. If the bank expects a 0.50 percent probability of default on this loan over its three- year life, is it better off selling this loan with or without recourse? It expects to receive no interest payments or principal if the loan is defaulted.