Return to the valuation of the Bermudan-style three-year 4.25% annual coupon bond callable at par one year and two years from now as depicted in Exhibit 12. The one-year, two-year, and three-year par yields are 2.500%, 3.000%, and 3.500%, respectively, and the interest rate volatility is 10%.

Assume that nothing changes relative to the initial setting except that the interest rate volatility is now 15% instead of 10%. The new value of the callable bond is:

A. Less than 101.540.

B. Equal to 101.540.

C. More than 101.540.

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EXHIBIT 12 Valuation of a Default-Free Three-Year 4.25% Annual Coupon Bond Callable at Par One Year and Two Years from Now at 10% Interest Rate Volatility Year 0 Year 1 101.540 2.500% 99.658 3.8695% 4.250 100 100.922 3.1681% Year 2 98.791 5.5258% 4.250 99.738 4.5242% 4.250 100 100.526 3.7041% Year 3 104.250 104.250 104.250