Spot and forward exchange rates for the British pound are as follows: Spot exchange rate =...

Spot and forward exchange rates for the British pound are as follows: Spot exchange rate = 1.4500 USD/GBP, 90-day forward exchange rate =1.4416 USD/GBP, 180-day forward exchange rate = 1.4400 USD/GBP. Additionally, a 180-day European call option to buy 1 GBP for USD 1.42 costs 3 cents, and a 90-day European put option to sell 1 GBP for USD 1.49 costs 3 cents. Which of the following is the correct arbitrage strategy?

Select one:

Buy the 90-day forward contract and write the 90-day put option

Buy the 90-day forward contract and buy the 90-day put option

Buy the 180-day call option and sell the 180-day forward contract

Solutions

Expert Solution

The arbitrage is the position in which the investor earns low fixed return without risk.

The 180 day call options not have any arbitrage gains because their call option price after premium is more than the forward price

In 90 days call options not available in question.

In 90 days put options there is arbitrage gains because the 90 days put options have value more than 90 days forward price.

Hence, option(c ) is correct.

jeff jeffy answered 1 year ago

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