Question: explain your answer Question 1 [20 marks] Consider the payoff matrix -1 0 3 A = -1 0 2 0 -1 0 and the price

explain your answer Question 1 [20 marks] Consider the payoff matrix

explain your answer

Question 1 [20 marks] Consider the payoff matrix -1 0 3 A = -1 0 2 0 -1 0 and the price vector -0.5 [ S=-0.5 1 a. Is the market complete? b. Can you calculate the risk-free return in this market? If yes, what is it? c. Find state prices consistent with A and S and the Law of One Price, and then determine whether there is arbitrage. d. If there is arbitrage, propose an arbitrage portfolio and explain what type of arbitrage it is. If there is no arbitrage, state what the risk-neutral probabilities are. Question 1 [20 marks] Consider the payoff matrix -1 0 3 A = -1 0 2 0 -1 0 and the price vector -0.5 [ S=-0.5 1 a. Is the market complete? b. Can you calculate the risk-free return in this market? If yes, what is it? c. Find state prices consistent with A and S and the Law of One Price, and then determine whether there is arbitrage. d. If there is arbitrage, propose an arbitrage portfolio and explain what type of arbitrage it is. If there is no arbitrage, state what the risk-neutral probabilities are

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