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Make an arbitrage profit by selling the product

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Reference no: EM133002058

A bank is offering the following financial product to clients:Client invests 40,000 at t = 05where S5 

  • Payout to client at t = 5 is 30,000 + (X)[max(0, S - 4,000)] is the level of the S&P 500 at t = 5

Other market info:

  • The risk free rate is 7% (annual rate with annual compounding)
  • The S&P 500 is currently at 4,000
  • A 5-year European call option on the S&P 500 with strike price K = 4,000 costs 1,500 at t = 0

What is the value of X (within 0.01) such that the product is fairly priced, meaning the bank cannot make an arbitrage profit by selling the product?

Reference no: EM133002058

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