The expected level of the Index in one year when the expected rate of return on the market is 8%. Introduction: Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

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Answer 1

Question

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

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Consider the futures contract written on the S&P 500 index and maturing in one year. The interest rate is 3%, and the future value of dividends expected to be paid over the next year is $35. The current index level is 2,000. Assume that you can short sell the S&P index.a. Suppose the expected rate of return on the market is 8%. What is the expected level of the index in one year?b. What is the theoretical no-arbitrage price for a 1-year futures contract on the S&P 500 stock index?c. Suppose the actual futures price is 2,012. Is there an arbitrage opportunity here? If so, how would you exploit it?

Suppose the ASX200 Index is currently at 7,406, the expected dividend yield on the index is 2 percent per year, and the risk-free rate is 0.35%. Using the current price of ASX200 futures contracts that expire in six months recommend a program trading strategy for buying or selling the futures?

Consider these futures market data for the June delivery S&P 500 contract, exactly one year from today. The S&P 500 index is at 1,950, and the June maturity contract is at F0 = 1,951.a. If the current interest rate is 2.5%, and the average dividend rate of the stocks in the index is 1.9%, what fraction of the proceeds of stock short sales would need to be available to you to earn arbitrage profits?b. Suppose now that you in fact have access to 90% of the proceeds from a short sale. What is the lower bound on the futures price that rules out arbitrage opportunities?c. By how much does the actual futures price fall below the no-arbitrage bound?d. Formulate the appropriate arbitrage strategy, and calculate the profits to that strategy.

Answer 2

Question

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

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Answer 3

Question

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

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Answer 4

Question

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

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Answer 5

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

Answer 6

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

Answer 7

Chapter 23, Problem 5PS

a

Summary Introduction

To compute: The expected level of the Index in one year when the expected rate of return on the market is 8%.

Introduction:

Arbitrage pricing theory: It is one of the multi-factor asset pricing models. It states that the return on an asset can be predicted using the linear relationship. This linear relationship is made between the expected rate of return of the asset and various number of macroeconomic variables good at capturing systematic risk.

Answer 8

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

Answer 9

b

Summary Introduction

To compute: The theoretical no-arbitrage price for 1-year future contract on the S&P 500 stock index.

Introduction:

No-arbitrage price: No-arbitrage can also be called as arbitrage- free principle. According to this principle, the price of the derivative is fixed in such a way that no one involved in trading can make a risk-free profit by purchasing one and selling the other.

Answer 10

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

Answer 11

c

Summary Introduction

To evaluate: The existence of arbitrage opportunity and how to use it when the actual future price is 2012.

Introduction:

Arbitrage opportunity: It is an opportunity which can be availed to make a risk-free profit even in market fluctuations. The process of arbitrage involves buying of an asset in one market with a lesser price and sell it another market with a higher price.

Answer 12

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Answer 15

Ch. 23 - Prob. 1PS Ch. 23 - Prob. 2PS Ch. 23 - Prob. 3PS Ch. 23 - Prob. 4PS Ch. 23 - Prob. 5PS Ch. 23 - Prob. 6PS Ch. 23 - Prob. 7PS Ch. 23 - Prob. 8PS Ch. 23 - Prob. 9PS Ch. 23 - Prob. 10PS

Solution Summary: The author explains that the return on an asset can be predicted using the linear relationship between the expected rate of return of the asset and various number of macroeconomic variables.

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