Question 3 Suppose that securities markets are in a no-arbitrage (APT) equilibrium such that: 1p.t = 1ft + Bp.m (Imt - Ift) + Bp.IR (IIR,t - Ift) where M is the market portfolio and IR is the interest rate risk factor portfolio. Also, assume that the Gamma portfolio is well diversified across the two factors. An analyst at Blackrock has estimated the followings: Factor Loadings BGamma,M = 0.7 BGamma, IR = -0.3 I'f= 0.01 Expected Returns and/or Risk Premiums E(I'm) = 0.06 E(ITR) = 0.09 The analysist states that according to his analysis, E(T Gamma) = 1.1%, and there is an arbitrage opportunity. Is he correct? If yes, describe the trading strategy to exploit the mispricing. What are weights for each of the assets in the portfolio? What do you buy, short sell, borrow and/or lend? If no, explain why there is no arbitrage opportunity in three sentences or less. Question 3 Suppose that securities markets are in a no-arbitrage (APT) equilibrium such that: 1p.t = 1ft + Bp.m (Imt - Ift) + Bp.IR (IIR,t - Ift) where M is the market portfolio and IR is the interest rate risk factor portfolio. Also, assume that the Gamma portfolio is well diversified across the two factors. An analyst at Blackrock has estimated the followings: Factor Loadings BGamma,M = 0.7 BGamma, IR = -0.3 I'f= 0.01 Expected Returns and/or Risk Premiums E(I'm) = 0.06 E(ITR) = 0.09 The analysist states that according to his analysis, E(T Gamma) = 1.1%, and there is an arbitrage opportunity. Is he correct? If yes, describe the trading strategy to exploit the mispricing. What are weights for each of the assets in the portfolio? What do you buy, short sell, borrow and/or lend? If no, explain why there is no arbitrage opportunity in three sentences or less