If zero rates with continuous compounding for 4 and 5 years are 4% and 5% respectively, what is the forward rate for year 5?

If zero rates with continuous compounding for 4 and 5 years are 4% and 5% respectively, what is the forward rate for year 5?
A . 5%
B . 9%
C . 9.097%
D . 7%

View Answer

Answer: B

Explanation:

When rates are continuously compounded, we can calculate the marginal rate for year 5 as (5*5% – 4*4%) = 9%. (Note that things would be different if the rates were not continuously compounded, and they were annually compounded. In that case we would need to do a calculation of (1.05^5 / 1.04^4) – 1)