Consider a 1-year forward contract on a stock that pays no dividends in that year. Currently...

 

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Consider a 1-year forward contract on a stock that pays no dividends in that year. Currently the stock spot price is $20 and the risk-free rate of interest is 5% per year. a. What should be the forward price? What is the initial value of the forward contract at that forward price? b. If the forward contract is quoted presently at $30, what is the arbitrage opportunity? c. Six (6) months later, the price of the stock is $25 and risk-free interest rate is still 5%. What should be the forward price prevailing at that time? What is the value of the original long forward contract you had entered at the beginning of the year? Consider a 1-year forward contract on a stock that pays no dividends in that year. Currently the stock spot price is $20 and the risk-free rate of interest is 5% per year. a. What should be the forward price? What is the initial value of the forward contract at that forward price? b. If the forward contract is quoted presently at $30, what is the arbitrage opportunity? c. Six (6) months later, the price of the stock is $25 and risk-free interest rate is still 5%. What should be the forward price prevailing at that time? What is the value of the original long forward contract you had entered at the beginning of the year?

Answer rating: 100% (QA)

a To calculate the forward price F you can use the formula F S0erT Where S0 Current spot price of th... View the full answer