Call option on dividend-paying stock for no arbitrage

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Reference no: EM132003329

A six-month European call option's underlying stock price is $86, while the strike price is $80 and a dividend of $5 is expected in two months. Assume that the risk-free interest rate is 5% per annum with continuous compounding for all maturities.

1) What should be the lowest bound price for a six-month European call option on a dividend-paying stock for no arbitrage?

2) If the call option is currently selling for $2, what arbitrage strategy should be implemented?

1) theoretical price = $2.85

1) theoretical price = $3.02

1) theoretical price = $3.67

1) theoretical price = 1.98

arbitrage strategy: Buy the call and short the stock.

2) arbitrage strategy: Buy the call and buy the stock.

2) arbitrage strategy: Short the call and buy the stock

2) arbitrage strategy: Short the call and sell the stock

Reference no: EM132003329

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