Look one more time at Table.

a. Suppose you knew the bond prices but not the spot interest rates. Explain how you would calculate the spot rates. (You have four unknown spot rates, so you need four equations.)

b. Suppose that you could buy bond C in large quantities at $1,040 rather than at its equilibrium price of $1,058.76. Show how you could make a zillion dollars without taking on anyrisk.

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Year (t) Bond Price iceYield to (PV) Maturity (y,%) 2 4 Spot rates Discount factors Bond A (8% coupon): 035 9662 9246 8839 -8418 Payment (C) PV(C) S80 $77.29 1,080 998.52 $1,075.82 3.98 Bond B (11% coupon): Payment () PV(C) $110 $106.28 110 101.70 1,110 981.11 S1,189.10 4.16 Bond C (6% coupon): Payment (C) PV(C 1060 $57.97 55.47 53.03 892.29 $1,058.76 4.37 Bond D (strip): Payment () PV(C) S1,000 $841.78 $841.78 4.40