1. Consider a market with these securities: a non-dividend-paying stock, forward contract on this stock with forward price $42.0508, European call option and European put option on this stock with strike price $42.0508 for both. All derivatives contracts on the stock mature in one year. Call option price is $3.1862. Assume that you borrow and lend at the same interest rate. Assume that one option contract is on 100 shares. Assume there is no arbitrage in the forward market.

a) Use both the put and call options to create a replicating portfolio of a long forward position on 100 shares. Please specify the option positions and payoff. (5 points)

b) In absence of arbitrage, what is the put option price? Please explain. (2 points)

c) Suppose that the market price of the put is $5.0422, and interest rate is 5%. Design a strategy to make arbitrage profit. Describe your strategy, your cash flow, and your profit in one year. (6 points)