Question

Consider the following spot interest rates for maturities of one, two, three, and four years.

r1 = 4.4% r2 = 4.9% r3 = 5.6% r4 = 6.4%

What are the following forward rates, where f1, k refers to a forward rate for the period beginning in one year and extending for k years?

Answer is complete but not entirely correct.

f1,1	5.40	%
f1,2		%
f1,3		%

Answer 1

F1,2=[1+r3]^3/[1+r2]^2   -1

       =[1+.056]^3/[1+.049]^2   -1

       = 1.17758/1.10040       -1

      = 1.0701-1

      = .0701 or 7.01%

F1,3= [1+r4]^4/[1+r3]^3     -1

        = [1+.064]^4 /[1+.056]^3     -1

        = 1.28164/1.17758        -1

        = 1.0884-1

       = .0884 or 8.84%