QUESTION 3

1. This is a problem that has FOUR questions. Therefore, please choose FOUR answers (one choice for each question) to get full credit for this questions, otherwise you will only get partial points.

   A stock is expected to pay a dividend of $1.50 per share in three months and in six months. The stock price is currently $45 and the risk-free rate is 6% per annum with continuous compounding for all maturities. An investor has just taken a short position in seven-month forward contract on the stock.

   #1) What is the forward price for no arbitrage opportunity?

   #2) What is the initial value of the forward contract?

   4 months later. Now, the price of the stock is $50 and the risk-free rate is still 6% per annum with continuous compounding.

   #3) What is the new forward price for no arbitrage opportunity?

   #4) and what is the value of the short position in the forward contract?

   		#1) forward price initially = $44.55
   		#1) forward price initially = $43.57
   		#1) forward price initially = $46.52
   		#2) initial value of the contract = $0
   		#2) initial value of the contract = cannot determine without further information
   		#2) initial value of the contract = -$1.52
   		#3) forward price 4 months later = $52.21
   		#3) forward price 4 months later = $48.85
   		#3) forward price 4 months later = $49.25
   		#3) forward price 4 months later = $50.75
   		#4) value of the short forward contract 4 months later = $0
   		#4) value of the short forward contract 4 months later = -$5.60
   		#4) value of the short forward contract 4 months later = $5.60
   		#4) value of the short forward contract 4 months later = cannot determine without further information