Show that there exists an arbitrage opportunity

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Reference no: EM132019602

Suppose there are three stocks A, B, and C. There are only two states of the world. In each of the two states, our three stocks have the following payoffs:

Stock Price (Payoff in State I) (Payoff in State II)

A 60 50 100

B 80 30 120

C 70 38 112

(a) Show that there exists an arbitrage opportunity between these stocks. (Try combining stocks A and B to make a portfolio that is identical to stock C in both states)

(b) Based on your answer in part (a), tell me the zero investment portfolio that would get you positive profit

Reference no: EM132019602

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