A stock priced at $65 has a standard deviation of 30%. Three-month calls and puts with an exercise price of $60 are available. The calls have a premium of $7.27, and the puts cost $1.10. The risk-free rate is 5%. Since the theoretical value of the put is $1.525, you believe the puts are undervalued.
If you construct a riskless arbitrage to exploit the mispriced puts, your arbitrage profit will be ________.
A) $5.75
B) $6.17
C) $0.96
D) $0.42

Question

Quizplus · Accepted Answer

The arbitrage profit is the difference between the income from C - P and the cost of buying the stock and borrowing the present value of the exercise price: (C - P) − (S₀ − Xe^-rt) = (7.27 − 1.10) − (65 − 59.25467) = 0.42 The table below shows the cash flows. 11eaaae8_8b45_bf58_a4b8_659d1d2857c2_TB6474_00

A Stock Priced at $65 Has a Standard Deviation of 30