The yield to maturity (YTM) on 1-year zero-coupon bonds is 5% and the YTM on 2-year zeros is 6%. The yield to maturity on 2-year-maturity coupon bonds with coupon rates of 9% (paid annually) is 5.9%.
a. What arbitrage opportunity is available for an investment banking firm? (Omit the "tiny_mce_markerquot; sign in your response.)
The arbitrage strategy is to buy zeros with face values of $ and $ , and respective maturities of one year and two years.
b. What is the profit on the activity? (Do not round intermediate calculations. Round your answer to 2 decimal places. Omit the "tiny_mce_markerquot; sign in your response.)
Profit $
each bond