53.7
7a. Write down a cash flow diagram for the cash flows for a 5%
coupon bond with semi-annual coupons and 5 ½ years to maturity.
[6 pts]
7b. Assume that the term structure shows that the interest rate for 6-month maturities is 5.75% and the interest rate for 5 ½ year maturities is 6.25%. Interest rates increase by an increment of 0.05% for each 6-month interval in between, so that the average for the 11 rates is 6.00%. If you use 6% as your single discount rate to compute the PV of the package of cash flows from part a, will you underestimate, overestimate, or correctly value the bond? EXPLAIN. YOU SHOULD NOT DO ANY CALCULATIONS FOR THIS QUESTION. [6 pts]