Explain how to construct a synthetic treasury bill position

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Reference no: EM13923452

The common stock of Company XLT and its derivative securities currently trade in the market at the following prices and contract terms:

	Price ($)	Exercise price ($)
Stock XLT	21.50	-
Call option on Stock XLT	5.50	21.00
Put option on Stock XLT	4.50	21.00

Both of these options will expire 91 days from now, and the annualized yield for the 91-day Treasury bill is 3.0 percent.

a. Briefly explain how to construct a synthetic Treasury bill position.

b. Calculate the annualized yield for the synthetic Treasury bill in Part a using the mar- ket price data provided.

c. Describe the arbitrage strategy implied by the difference in yields for the actual and synthetic T-bill positions. Show the net, riskless cash flow you could generate assum- ing a transaction involving 21 actual T-bills and 100 synthetic T-bills.

d. What is the net cash flow of this arbitrage strategy at the option expiration date, assuming that Stock XLT trades at $23 at expiration three months from now?

Reference no: EM13923452

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