Question

A security is currently trading at $96. It will pay a coupon of $4 in three...

A security is currently trading at $96. It will pay a coupon of $4 in three months. No other

payouts are expected in the next six months.

(a) If the relevant interest rate is 10% p.a. with continuous compounding, what should be the fair forward price of this security for delivery in six months?

(b) If the market quoted six- month forward price of this security is $98, explain step-by-step how an arbitrage may be created.

(c) Fill in the following payoff table correctly:

Cash Flows

Trade

Initial T0

Interim Tt

Final T1
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Answer #1

Part a)

Please refer to the screenshots below:

Part b)

Part c)

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