3. Answer the following questions. (a) You observe that the price of a stock is $100 while the price of a call option at $100 is $10, with expiration date one year from now. The price of an identical put on the stock is $4.59. The rate of interest is 8% pa, continuously compounded. (i) Do these prices indicate that the financial markets are in equilibrium? Show how you derived your answer. [10%) (ii) An arbitrage opportunity should exist, and if you set up the position correctly, you will always sustain profits. Verify that if you do set up a correct arbitrage, you will always sustain a profit. Use prices of the stock at $80 and $120 as of the expiration date of the options. [30%) 3. Answer the following questions. (a) You observe that the price of a stock is $100 while the price of a call option at $100 is $10, with expiration date one year from now. The price of an identical put on the stock is $4.59. The rate of interest is 8% pa, continuously compounded. (i) Do these prices indicate that the financial markets are in equilibrium? Show how you derived your answer. [10%) (ii) An arbitrage opportunity should exist, and if you set up the position correctly, you will always sustain profits. Verify that if you do set up a correct arbitrage, you will always sustain a profit. Use prices of the stock at $80 and $120 as of the expiration date of the options. [30%)