Option of borrowing share of stock at an interest rate

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Assume that you have the option of borrowing a share of stock at an interest rate of 1% per year. This means that for each share of stock that you borrow, you have to return 1% over and above the amount that you borrowed. So, for example, if you borrowed a 100 shares, you have to return 101 at the end of the year. Say that the current stock price is $100 per share of stock, and the risk free rate is 2% per year. You need to borrow $10,000 and you have the option of borrowing cash at 5%. If you use a futures contract to lock in your transaction price at the end of the year, which is cheaper – borrowing cash, or borrowing stocks? Show why your answer is correct. Note that you cannot borrow at the risk-free rate.

Reference no: EM131585406

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