Consider two securities, A & B. Suppose a third security, C, has the same cash flows...
Consider two securities, A & B. Suppose a third security, C, has the same cash flows as A and B combined. Given this information about securities A,B, & C, which of the following statements is INCORRECT? A. The relationship known as value additivity says that the value of a portfolio is equal to the sum of the values of its parts. B. If the total price of A and B is cheaper than the price of C, then we could make a profit selling A and B and buying C. C. Because security C is equivalent to the portfolio of A and B, by the law of one price they must have the same price. D. Price(C) = Price(A) + Price(B).
Homework Answers
The incorrect statement is
B. If the total price of A and B is cheaper than the price of C, then we could make a profit selling A and B and buying C.
Because if the total price of A and B is cheaper than the price of C; then we could make a profit buying securities A and B and selling security C from this arbitrage opportunity. This process will push the prices of securities A and B to upward and price of security C to downward until the price of securities A and B equals to the price of the security C.
All the other statements are correct because of the law of one price
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