Question
The table below provides factor risk loadings and factor risk premia for a two factor model for a particular portfolio where factor portfolio 1 tracks
The table below provides factor risk loadings and factor risk premia for a two factor model for a particular portfolio where factor portfolio 1 tracks GDP and factor portfolio 2, IR, tracks unexpected changes in interest rates. The risk-free rate RF is 1.5%.
Portfolio ABC | Factor Loading | Risk Factor Portfolio | Risk Premium | |
GDP | -1.2 | GDP | 1.3% | |
IR | 0.5 | IR | 6% |
A trader estimates the average return of the asset to be 3.2% and believes that he is correct. Describe an arbitrage strategy.
a. | Buy the asset, buy GDP, short IR, borrow risk-free | |
b. | Buy the asset, short GDP, buy IR, lend risk-free | |
c. | Short the asset, buy GDP, short IR, borrow risk-free | |
d. | Short the asset, buy GDP, short IR, lend risk-free | |
e. | None of the above |
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