You observe the yields of the following Treasury securities (all yields are show

ID: 2640333 • Letter: Y

Question

You observe the yields of the following Treasury securities (all yields are shown on a bond-equivalent basis):

Year (Period)

Yield to Maturity (%)

Spot Rate (%)

0.5 (1)

10.00

1.0 (2)

9.75

1.5 (3)

9.50

9.48

2.0 (4)

9.25

9.22

2.5 (5)

9.00

8.95

3.0 (6)

8.75

3.5 (7)

8.50

4.0 (8)

8.25

8.14

4.5 (9)

8.00

7.86

5.0 (10)

7.75

7.58

All the securities maturing from 1.5 years on are selling at par(=$100). The 0.5 and 1.0-year securities are zero-coupon instruments. Answer the below questions.

(a) Calculate the missing spot rates.

(b) What should the price of an 5% 4-year Treasury security (with a maturity value of $1,000) be?

(c) If the market priced the 5% 4-year Treasury bond in part (b) based on the YTM of 4-year security indicated in the table above, find an arbitrage strategy and identify arbitrage profits.