you decide to model interest rates R(n) using a log-normal process with parameters R(0) = 2%, = 0.2 and = 0.2 (here R(n) is the effective interest rate for a deposit between time n and time n 1). (a) Give one advantage of using a log-normal process as a model for interest rates Suppose that you deposit a bank account at time = 0. Calculate the probability that the accumulated bank balance has more than doubled by time 4. You may use the value of the standard normal e.d.f. Ф(1.695) = 0,955.

Question 2 [9 marks). You decide to model interest rates R(n) using a log-normal process with parameters R(0)-2%, -0.2 and -0.2 (here R(n) is the effective interest rate for a deposit between time and time n+1). (a) Give one advantage of using a log-normal process as a model for interest rates. [3] (b) Suppose that you deposit P in a bank account at time=0. Calculate the probability that the accumulated bank balance has more than doubled by time 4. You may use the value of the standard normal cd.f. 4(1.695) -0.955. [6]