Question: Consider a two-factor Arbitrage Pricing Theory (APT) model, ri= a + bifi + b2.if2 + , with the following information Asset i Asset 1

Consider a two-factor Arbitrage Pricing Theory (APT) model, ri= a + bifi

Consider a two-factor Arbitrage Pricing Theory (APT) model, ri= a + bifi + b2.if2 + , with the following information Asset i Asset 1 Asset 2 b1,b2,i 0.07 0.50 0.25 0.15 1.10 0.75 Asset 3 0.20 1,3 1.0 and the risk-free rate rp is 0.025. (a) (6 Marks) Find the value of b1,3 to preclude arbitrage opportunity. (b) (16 Marks) Explain how you would exploit an arbitrage opportunity if there is an Asset 4 with 4 = 0.13, b1,4 = 0.8, and b2,4 = 0.4.

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