Swaps often contain caps or floors. In this problem, you are to construct an oil contract that has the following characteristics: The initial cost is zero. Then in each period, the buyer pays the market price of oil if it is between K₁ and K₂; otherwise, if S 1, the buyer pays K₁, and if S >K₂, the buyer pays K₂ (there is a floor and a cap). Assume that K₂ − K₁= $2 and that oil volatility is 15%.

a. If there is a single settlement date in 1 year, what are K₁ and K₂?

b. If the swap settles quarterly for eight quarters, what are K₁ and K₂?