Suppose that there are three assets traded in the economy: A = (1, 2, 3), B...
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Suppose that there are three assets traded in the economy: A = (1, 2, 3), B = (1, 1, 1), and C = (2.5, 4.5, 6.5). a. (6 points) Is the market complete? Explain with supporting calculations. b. (6 points) Suppose that P (A) = 2, P (B) = 1 and P(C) = 5. Explain why the principle of no arbitrage is violated in this economy. (Hint: Replicate stock C using A and B). c. (8 points) Assume that you can buy and/or sell integer multiples of the three assets. Can you design a trading strategy that will generate arbitrage profit? d. (4 points) Suppose shorting a stock will be charged a borrowing cost of $K per share shorted. Will this eliminate the arbitrage opportunities in this setting? Explain with supporting calculations. Suppose that there are three assets traded in the economy: A = (1, 2, 3), B = (1, 1, 1), and C = (2.5, 4.5, 6.5). a. (6 points) Is the market complete? Explain with supporting calculations. b. (6 points) Suppose that P (A) = 2, P (B) = 1 and P(C) = 5. Explain why the principle of no arbitrage is violated in this economy. (Hint: Replicate stock C using A and B). c. (8 points) Assume that you can buy and/or sell integer multiples of the three assets. Can you design a trading strategy that will generate arbitrage profit? d. (4 points) Suppose shorting a stock will be charged a borrowing cost of $K per share shorted. Will this eliminate the arbitrage opportunities in this setting? Explain with supporting calculations.
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a No the market is not complete The assets A B and C do not form a complete market since the a... View the full answer
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