Assume that MM's perfect capital markets conditions are met and that you can borrow and lend at the same 5% rate as With.You have $5000 of your own money to invest and you plan on buying With stock.Using homemade (un)leverage,how much do you need to invest at the risk-free rate so that the payoff of your account will be the same as a $5000 investment in Without stock?

Question

Quizplus · Accepted Answer

To replicate the payoff of a $5000 investment in Without stock using homemade leverage, you need to invest $2500 at the risk-free rate and $2500 in With stock. This way, the combined payoff will match the payoff of the Without stock investment.

Assume That MM's Perfect Capital Markets Conditions Are Met and That