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Suppose that the spot price of gold is $600. The total cost of insurance and storage...

Suppose that the spot price of gold is $600. The total cost of insurance and storage for gold is $30 per year, payable in advance. The rate of interest for borrowing or lending is 20% per year. If the forward price is $800, and you are interested in arbitrage, you would: (Hint: Check answer with an arbitrage table)

Sell the spot commodity, lend money, and buy a forward contract

Borrow money, buy the spot commodity, and buy a forward contract

Borrow money, buy the spot commodity, and sell a forward contract

Sell a forward contract, lend money, and buy the spot commodity

Sell a forward, borrow money, and sell the spot commodity
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Answer #1


Correct option is > Borrow money, buy the spot commodity, and sell a forward contract

Cost today = 630

Future value or forward price = 800

Discount or borrowing rate = 20%

630 x (1+20%) = Forward price calculated $756

Selling future because its costly at $800[ Borrow money $630 and buy cheap spot at $630. Would leave with profit of 800-756 = $44

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