According to put-call parity, a call option can be replicated by:
A) selling a put, buying the underlying stock, and borrowing at the risk-free rate.
B) buying a put, selling the underlying stock, and lending at the risk-free rate.
C) buying a put, buying the underlying stock, and lending at the risk-free rate.
D) buying a put, buying the underlying stock, and borrowing at the risk-free rate.
E) selling a put, selling the underlying stock, and lending at the risk-free rate.

Question

Quizplus · Accepted Answer

According to put-call parity, the following relationship must hold between a call option and a put option with the same strike price and expiration date:
Call price - Put price = Stock price - Present value of the strike price.
To replicate a call option, we can buy a put option with the same strike price and expiration date and then buy the underlying stock and borrow at the risk-free rate. This will give us the same cash flows as the call option. Therefore, the correct answer is option D: buying a put, buying the underlying stock, and borrowing at the risk-free rate.

According to Put-Call Parity, a Call Option Can Be Replicated