Question
Consider a 1-year long forward contract on a stock that pays a single dividend payment right before the maturity date. The initial stock price is
Consider a 1-year long forward contract on a stock that pays a single dividend payment right before the maturity date. The initial stock price is $110, and the effective annual risk-free interest rate is 5%. The forward market price is $109.5.
a) What dividend payment is implied by this forward price?
b) Suppose you believe the dividend payment in 1 year will be only $4. What arbitrage would you undertake?
c) Suppose you believe the dividend payment in 1 year will be $8. What arbitrage would you undertake?
Step by Step Solution
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Step: 1
a To determine the implied dividend payment calculate the present value of the dividend payment using the forward price The forward price represents t...
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Income Tax Fundamentals 2013
Authors: Gerald E. Whittenburg, Martha Altus Buller, Steven L Gill
31st Edition
1111972516, 978-1285586618, 1285586611, 978-1285613109, 978-1111972516
