Today, you purchased a two-year Treasury STRIP (zero coupon bond) with a face value of $1000. Assume that the one-year spot rate (0r1) is 5.00% and the two-year spot rate (0r2) is 6.00%.
a. What is the one-year forward rate between years 1 and 2?
b. What is the current price of the two-year Treasury STRIP?
c. What is the expected price of the two-year Treasury STRIP one year from today?
d. If you sell the Treasury STRIP in exactly one year, what annual rate of return do you expect to earn?
e. If you instead decide to hold the Treasury STRIP until it matures, what annual rate of return do you expect to earn between years 1 and 2?