11. You are working on the arbitrage desk at a hedge fund and you observe the...

11. You are working on the arbitrage desk at a hedge fund and you observe the following data on your screen: S = $60 K = 60 CE = $5.00 PE = $5.00 D = 0 T = 3 months r = 3% (continuously compounded) Do you see an opportunity? How would you exploit it? How much would you make on this trade?

Expert Solution

Do you see an opportunity?

Yes, calculated value of Call option is $ 5.448317 (See the image pasted below) and given value in question is $ 5. Given value of call option is cheaper than calculated value hence opportunity does exists.

How would you exploit it?

We can buy call option at $ 5 and clear that call postion at $ 5.448317 (when market value goes up for call). The call option value of market will surely appreciate soon.

How much would you make on this trade?

Calculate value of call option - Given or Market price of call option = Profit

We can earn $ 5.448317 - $ 5 = $ 0.448317 (Profit on per call contract)

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Working for call option is below:

jeff jeffy answered 2 years ago

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