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Consider a three-year mortgage with annual payments in arrears. Suppose the probability of default is 1% in the first year and 5% each year thereafter

Consider a three-year mortgage with annual payments in arrears. Suppose the probability of default is 1% in the first year and 5% each year thereafter given that default has not occurred previously. Suppose the loan is an 8% interest-only loan. If the conditional recovery rate is 75% in each year, what is the expected return on the loan?

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