Suppose that you want to invest for three years to earn the highest possible return. You have three options:
– Roll over three one-year bonds, which pay interest rates of 8% in the first year, 11% in the second year, and 7% in the third year;
– buy a two-year bond with a 10% interest rate and then roll over the amount received when that bond matures into a one-year bond with an interest rate of 7%; or
– buy a three-year bond with an interest rate of 8.5%. Assuming annual compounding, no coupon payments, and no cost of buying or selling bonds, which option should you choose?