Your research has found that the returns of all securities in the economy share oil price as
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Question:
Your research has found that the returns of all securities in the economy share oil price as one common factor,
Rie=αi+βi×Ot+ei
where Rie is the excess return Ri − Rf . Consider two well diversified portfolios, A and B with following characteristics:
Answer the following questions (they can all be answered independently).
- Suppose Rf = 5% and E(Ot) = 4%. Check if there are arbitrage opportunities in this market.
- Suppose αA = 0.5% and αB = 1%. Calculate the weights of A and B in a zero-beta portfolio. Then describe how you would exploit the arbitrage opportunity and what is the return of doing so.
- Given the information provided, What must be the risk-free rate Rf and E(Ot) in this economy if there are no arbitrage opportunities?
Expert Answer:
1 The answers are yes because there are arbitrage opportunities in this market First consider an ass... View the full answer
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