Problem 1: Suppose the risk-free interest rate is 4%.
a. Having $200 today is equivalent to having what amount in one year?
b. Having $200 in one year is equivalent to having what amount today?
c. Which would you prefer, $200 today or $200 in one year? Does your answer depend on when you need the money? Why or why not?
Problem 2: Your firm has a risk free investment opportunity where it can invest $160,000 today and receive $170,000 in one year. For what level of interest rates is this project attractive?
Problem 3: Suppose Bank One offers a risk-free interest rate of 5.5% on both savings and loans, and Bank Enn offers a risk-free interest rate of 6% on both savings and loans.
a. What abitrage opportunity is available?
b. Which bank would experience a surge in the demand for loans? Which bank would receive a surge in deposits?
c. What would you expect to happen to the interest rates the two banks are offering?
Problem 4: The promised cash flow of 3 securites are listed below. If the cash flows are risk-free, and the risk-free interest rare is 5%, determine the no-arbitrage price of each security before the first cash flow is paid.
Security Cash Flow Today($) Cash Flow in 1 Year ($)
A 500 500
B 0 1000
C 1000 0