A $1,000, 7% annual coupon bond matures in three years. The bond is currently priced at $974.23 and has a YTM of 8.0%.
(a) What is the Macaulay duration?
(b) Calculate the modified duration and use this to estimate the price change if interest rates dropped by 0.5%.
(c) Calculate the price of the bond if the rates do drop to 7.5%. How does this price change compare to that predicted by the modified duration? Explain the difference.
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