Problem 1

On February 6, 2012, Wal

-

Mart (WMT) stock was trading at $61.88. The stock was

expected to rise to $70 by the end of March 2013. On February 6, 2012, a forward

dealer offers to sell at $65 and buy at $64 a forward contract on WMT for delivery in one

month. On 2/6/2012, you can borrow or lend at a 1 month risk free interest rate of 1.2%

(annual percent rate, APR).

1.

The forward price is not an equilibrium price. Explain/Prove why the market is not in

equilibrium.

2.

How can you exploit the situation to make an arbitrage profit? Keep in mind that an

arbitrage requires no net investment but a sure profit.