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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
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?
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