7. Forward Rate

a. Determine the forward rate for various one-year interest rate scenarios if the two-year interest rate is 8 percent, assuming no liquidity premium. Explain the relationship between the one-year interest rate and the one-year forward rate while holding the two-year interest rate constant.

b. Determine the one-year forward rate for the same one-year interest rate scenarios described in question (a) while assuming a liquidity premium of 0.4 percent.

Does the relationship between the one-year interest rate and the forward rate change when considering the liquidity premium is considered?

c. Determine how the one-year forward rate would be affected if the quoted two-year interest rate rises; hold constant the quoted one-year interest rate as well as the liquidity premium. Explain the logic of this relationship.

d. Determine how the one-year forward rate would be affected if the liquidity premium rises and if the quoted one-year interest rate is held constant. What if the quoted two-year interest rate is held constant? Explain the logic of this relationship.

9. Debt Security Yield

a. Determine how the appropriate yield to be offered on a security is affected by a higher risk-free rate.

Explain the logic of this relationship.

b. Determine how the appropriate yield to be offered on a security is affected by a higher default risk

premium. Explain the logic of this relationship.