where is the risk premium related to each of the Fama-French three factors, namely excess return on the market (MKT = ), small-minus-big factor (SMB), and high-minus-low factor (HML). The last three columns are the beta sensitivity (exposure) of each stock to the three factors. It is assumed that the zero-beta return is equal to zero.

where is the risk premium related to each of the Fama-French three factors, namely excess return on the market (MKT = ), small-minus-big factor (SMB), and high-minus-low factor (HML). The last three columns are the beta sensitivity (exposure) of each stock to the three factors. It is assumed that the zero-beta return is equal to zero.

Question 2 You have the following information for MST, CSX and ABC stocks: Factors MKT SMB HML | 7.23% 2.00% 4.10% Factor Betas MST CSX 0.966 1.042 -0.018 -0.043 -0.388 0.37 | | 1.178 0.526 0.517 where 1 is the risk premium related to each of the Fama-French three factors, namely excess return on the market (MKT = RM Rp), small-minus-big factor (SMB), and high-minus-low factor (HML). The last three columns are the beta sensitivity (exposure) of each stock to the three factors. It is assumed that the zero-beta return ho is equal to zero. Required (a-c): a. Using the Fama-French three-factor model, compute the expected return on each of the three stocks. b. It is now 2017. Suppose you believe that the actual prices of the three stocks in 2018 will be as follows: Stock MST CSX | Current stock price ($) Future stock price ($) in 2017 in 2018 $105.00 $ 110.63 $ 61.25 $62.75 $ 61.25 $75.00 If your forecasts of future stock prices are correct, what should be the current stock prices implied by the Fama-French three-factor model? It is assumed that the three stocks do not pay dividends. Based on your calculations, how do you take advantages of any price discrepancies? What is the profit of the arbitrage, if any? In your answer, please also provide the definition of riskless arbitrage