2. Suppose that over 1 year a stock price increases from $100 to $200. Over the subsequent year it falls back to $100.

a. What is the arithmetic return (i.e., (St+1− St)/St ) over the first year? What is the continuously compounded return (i.e., ln(St+1/St))?

b. What is the arithmetic return over the second year? The continuously compounded return?

c. What do you notice when you compare the first- and second-year returns computed arithmetically and continuously?