Question: Exercise 1. Consider a vanila swap with start date To, pay dates T1,.. , In, and fixed rate K. (i) Consider two portfolios at time

Exercise 1. Consider a vanila swap with start date To, pay

Exercise 1. Consider a vanila swap with start date To, pay dates T1,.. , In, and fixed rate K. (i) Consider two portfolios at time t: (A) (Receiving regular LIBOR payments during (T1, Tnl] + [one ZCB maturing at Inl, and (B) (One ZCB maturing at Tol. Show that one can replicate (A) by (B) by repeatedly reinvesting 1 at LIBOR deposit during each period [T:-1,Til, i = 1,...,n. (ii) Conclude that VFL (t) = 2(t, To) - Z(t, In). Exercise 1. Consider a vanila swap with start date To, pay dates T1,.. , In, and fixed rate K. (i) Consider two portfolios at time t: (A) (Receiving regular LIBOR payments during (T1, Tnl] + [one ZCB maturing at Inl, and (B) (One ZCB maturing at Tol. Show that one can replicate (A) by (B) by repeatedly reinvesting 1 at LIBOR deposit during each period [T:-1,Til, i = 1,...,n. (ii) Conclude that VFL (t) = 2(t, To) - Z(t, In)

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