Question I: Suppose the S&R index is 800, the continuously compounded risk-free rate is 5%, and the dividend yield is 0%. A 1-year 815-strike European call costs $75 and a 1-year 815-strike European put costs $45. Consider the strategy of buying the stock, selling the 815-strike call, and buying the 815-strike put. (a) What is the rate of return on this position held until the expiration of the options? (b) What is the arbitrage implied by your answer to (a)? (c) What difference between the call and put prices would eliminate arbitrage? (d) What difference between the call and put prices eliminates arbitrage for strike prices of $780, $800, $820, and $840?
Question I: Suppose the S&R index is 800, the continuously compounded risk-free rate is 5%, and the dividend yield is 0%. A 1-year 815-strike European call costs $75 and a 1-year 815-strike European put costs $45. Consider the strategy of buying the stock, selling the 815-strike call, and buying the 815-strike put. (a) What is the rate of return on this position held until the expiration of the options? (b) What is the arbitrage implied by your answer to (a)? (c) What difference between the call and put prices would eliminate arbitrage? (d) What difference between the call and put prices eliminates arbitrage for strike prices of $780, $800, $820, and $840?
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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Transcribed Image Text:Question I:
Suppose the S&R index is 800, the continuously compounded risk-free rate is 5%, and the dividend yield is
0%. A 1-year 815-strike European call costs $75 and a 1-year 815-strike European put costs $45. Consider
the strategy of buying the stock, selling the 815-strike call, and buying the 815-strike put.
(a) What is the rate of return on this position held until the expiration of the options?
(b) What is the arbitrage implied by your answer to (a)?
(c) What difference between the call and put prices would eliminate arbitrage?
(d) What difference between the call and put prices eliminates arbitrage for strike prices of $780, $800,
$820, and $840?
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