None 11. Suppose that we have the following 4 European call and put options with the samematurity T in the financial market:Strike Call Put100 45 361104042Suppose that the continuous compounding interest rate r = 0.05 in the market and thematurity time T1. Suppose that the initial wealth is 0. Can you choose a portfoliousing some of the options from the table and the Bank account to find an Arbitrageprofit? If yes, be specific of your arbitrage portfolio. If no, prove your argument.

There is a chance for arbitrage as the provided options go against the Put-Call Parity relationship.…

Answered: 11. Suppose that we have the following…

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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1. Suppose S₁ = 4, S₁(H) = 8, S₁(T) = 2 and the risk-free interest rate So is r = 0. Someone is willing to buy or sell European Call options with strike price k = 10 for the price Vo = 2. Explain why there exists an arbitrage opportunity; ie construct a portfolio which starts with nothing, has a positive chance of earning money and zero probability of losing money. SOLUTION
Suppose you observe the following situation: Security Beta Expected Return Peat Company 1.70 13.60 Re - Peat Company 0.85 10.80 Assume these securities are correctly priced. Based on the CAPM, what is the expected return on the market? What is the risk - free rate?
a) Suppose the risk-free rate is 1% and the expected rate of return on the market portfolio is 10%. In your view, the expected rate of return of a security is 12.2%. Given that this security has a beta of 1.4, do you consider it to be overpriced, under-priced or fairly priced according to the Capital Asset Pricing Model? Please provide the details of your calculations and discuss your results
The market portfolio (M) has the expected rate of return E(rM) = 0.12. Security A is traded in the market. We know that E(rA) = 0.17 and βA = 1.5. (1) What is the rate of return of the risk-free asset (rf)? (2) Security B is also traded in the market. βB = 0.8. Then what is “fair” expected rate of return of security B according to the CAPM? (3) Security C is a third security traded in the market. βC = 0.6, and from the market price, investors calculate E(rC) = 0.1. Is C overpriced or underpriced? What is αC?
Suppose you observe the following situation: Security Beta Expected Return Pete Corp. 1.70 0.180 Repete Col 1.39 0.153 What is the risk-free rate? (Do not round intermediate calculations. Round the final answer to 3 decimal places) Risk-free rate % Assume these securities are correctly priced. Based on the CAPM, what is the expected return on the market? (Do not round intermediate calculations. Round the final answers to 2 decimal places.) Expected Return on Market Pete Corp. Repete Co.%
Q3: Given the following inputs: Interest rate Dividend rate 6.25 6.00 and the following option prices: Strike Price CallPrice Put Price 31.00 2.71 2.40 5.01 34.00 41.00 2.41 0.36 9.71 a) Construct an arbitrage portfolio.
H2. Using the Black-Scholes model (BSOPM), compute the standard deviation that is implied by the following call option data as: the time to the option's maturity is 0.25 years, the price of the underlying option asset is RM30, the continuously compounded risk-free interest rate is 0.12. the exercise or striking price is RM30, and the cost or premium of the call is RM1.90.
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Suppose that the Treasury bill rate is 6% rather than 3%, as we assumed in Table 12.1, and the expected return on the market is 9%. Use the betas in that table to answer the following questions. a. When you assume this higher risk-free interest rate, what makes sense for how you should modify your assumption about the rate of return on the market portfolio? (Do not round intermediate calculations. Enter your answer as a percent rounded to 1 decimal place.) b. Recalculate the expected return on the stocks in Table 12.1. (Do not round intermediate calculations. Enter your answer as a percent rounded to 1 decimal place.) c. Suppose now that you continued to assume that the expected return on the market remained at 9%. Now what would be the expected returns on each stock? (Do not round intermediate calculations. Enter your answer as a percent rounded to 1 decimal place.)d. Ford offer a higher or lower expected return if the interest rate is 6% rather than 3%? e. Walmart offer a higher or…
Using the following information determine the expected rate of return for a risky asset using CAPM, consider the following example stocks assuming that you have already computed their betas Stocks Beta A 0.70 B 1.00 C 1.15 D 1.40 E -0.30 Assume that you expect the economy RFR to be 6% (0.06) The expected return on the market portfolio (E(Rm)) to be 8% (0.08) A market risk premium of (0.04). Question: What would be the SML required rate of return for the following stocks. A, B,C,D and E
Assume the APT equation for portfolios A and B with the following system of equations: E[rA] = λ0 + (λ1)3 + (λ2)0.2 = 11.0 E[rB] = λ0 + (λ1)2 + (λ2)1 = 13.0 Assume the following: . The risk free rate is λ0 = Rf = 5 . The expected return on the market portfolio is RM = 10 . Expected returns are consistent with the CAPM. . (hint: note that λ1 = E[RA] − Rf and λ2 = E[RB] − Rf ). Answer the following: (a) What are λ1 and λ2? (b) What is the CAPM β associated with the pure portfolio associated with factor 1? (c) What is the CAPM β associated with the pure portfolio associated with factor 2?
a) Suppose the risk-free rate is 7% and the expected rate of return on the market portfolio is 10%. In your view, the expected rate of return of a security is 12.2%. Given that this security has a beta of 1.4, do you consider it to be overpriced, under-priced or fairly priced according to the Capital Asset Pricing Model? Please provide the details of your calculations b) explain when a security is overpriced, under-priced or fairly priced according to the Capital Asset Pricing Model.

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