Explanation

In Model 1 (Vasicek model), the change in the spot rate is given by:

$dr = \sigma \cdot dW$

Where:

• $\sigma$ = annual volatility = 80 bps = 0.80%
• $dW$ = -0.5

Step 1: Calculate the change in spot rate $dr = \sigma \cdot dW = 0.80\% \times (-0.5) = -0.40\%$

Step 2: Calculate the new spot rate Current rate = 5.00% New rate = Current rate + Change in rate = 5.00% + (-0.40%) = 4.60%

Key Points:

• Model 1 assumes no drift term, so the expected change is zero
• The actual change depends on the realization of the random variable dW
• With dW = -0.5, we get a negative change in the interest rate
• The annual volatility is applied directly to the random shock

Therefore, the correct answer is B: -0.40% | 4.60%.