Consider two securities,A & B.Suppose a third security,C,has the same cash flows as A and B combined.Given this information about securities A,B,& C,which of the following statements is INCORRECT?
A)If the total price of A and B is cheaper than the price of C,then we could make a profit selling A and B and buying C.
B)Price(C)= Price(A)+ Price(B).
C)Because security C is equivalent to the portfolio of A and B,by the law of one price they must have the same price.
D)The relationship known as value additivity says that the value of a portfolio is equal to the sum of the values of its parts.

Question

Quizplus · Accepted Answer

The statement in choice A is incorrect. If the total price of A and B is cheaper than the price of C, then there would be an arbitrage opportunity where an investor could buy A and B at a lower price and sell C at a higher price, making a profit. However, this would cause the prices of A and B to increase and the price of C to decrease, eventually leading to the prices being equal through the law of one price.

Consider Two Securities,A & B