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FIN - Assume that a two-month forward contract

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Question;Assume that a two-month forward contract (100 shares per contract, cash settlement at maturity) is written on a stock that has announced to pay only $2 cash dividend per share at the end of the first month and pay nothing else before the forward contract expires.Assume that:* The stock can be traded at $100 per share right now (buy or sell).* Riskfree rate (for loan or deposit) is quoted as APR=12%, compounded monthly,* Assume there is 10% initial margin requirement for forward contract (long or short) and 50% initial margin for short sales,* There is no daily settlement or maintenance margin level required for either forward or short sales,* You are not allowed to deposit the proceeds you receive from short sales (no interest on those short sale proceeds). All the loan can be obtained without any initial margin or collateral at the risk free rate quoted above.(a) Assume now that the forward contract now can be traded at $150 per share (long or short). How do you form an arbitrage strategy to take advantage of this?(Need to show the components of your arbitrage portfolio and arbitrage cashflows to justify that your arbitrage strategy works!)(b) Assume that the forward contract now can be traded at $50 per share (long or short). How do you form an arbitrage strategy to take advantage of this?(Need to show the components of your arbitrage portfolio and arbitrage cashflows to justify that your arbitrage strategy works!)

 

Paper#47820 | Written in 18-Jul-2015

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