Homework Answers
Risk free interest rate = Price Cash Flow in One Year/Total Investment - 1
Risk free interest rate = 840/(200+600)-1
Risk free interest rate = 5%
Required rate = Risk free interest rate + risk premium
Required rate = 5% + 30%
Required rate = 35%
Today Market Value of Security C = Payoff/(1+r)
Today Market Value of Security C = (840*0.5 + 4200*0.5) /(1+35%)
TodayMarket Value of Security C = 1866.67
There is an arbitrage opportunity in this economy if it trades at lower or higher than $ 1866.67
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