Question

The price of a call option with a strike of $100 is $10. The price of a put option with a strike of

$100 is $5. Interest rates are 0 and the current price of the underlying is $100. Can you make an

arbitrage profit? If so how? Describe the trade and your pay offs in detail?

Answer 1

Answer:-

As per the put-call parity

C + PV(x) = P + S

C = price of the European call option = $ 10

PV(x) = the present value of the strike price (x), discounted from the value at the risk-free rate at expiration = $ 100

P = price of the European put = $ 5

S = spot price or the current market value of the underlying asset = $ 100

Given the interest rate = 0

$ 10 + $ 100 = $ 5 + $ 100 ( This is not equal hence there is an arbitrage opportunity)

The arbitrage opportunity is by buying the Put and Spot price asset and shorting the call and strike price.

The arbitrage gain is $ 5. ( $ 110 is not equal to $105)