Consider the implied forward rate between year 1 and year 2, based on Table 7.1. a. Suppose that 0 (1, 2) = 6.8%. Show how buying the 2-year zero-coupon bond and borrowing at the 1-year rate and...

Consider the implied forward rate between year 1 and year 2, based on Table 7.1.

a. Suppose that

₀(1, 2) = 6.8%. Show how buying the 2-year zero-coupon bond and borrowing at the 1-year rate and implied forward rate of 6.8% would earn you an arbitrage profit.

b. Suppose that

₀(1, 2) = 7.2%. Show how borrowing the 2-year zero-coupon bond and lending at the 1-year rate and implied forward rate of 7.2% would earn you an arbitrage profit.