### CFA Practice Question

There are 227 practice questions for this study session.

### CFA Practice Question

A security is currently trading at \$97. It will pay a coupon of \$5 in two months. No other payouts are expected in the next six months. Assume continuous compounding at 12%. If the 6-month forward price is \$92, what you should do now to create an arbitrage opportunity?

I. Do nothing. There is no arbitrage opportunity.
II. Sell the short spot at \$97.
III. Borrow \$97 for six months at 12%, and buy the security at \$97.
IV. Invest \$97 for six months at 12%.
V. Invest \$4.901 for two months at 12%.
VI. Investment \$92.099 for six months at 12%.
VII. Buy the forward at \$92.
VIII. Sell the forward at \$92.
Correct Answer: II, V, VI, and VII

According to the previous question, the forward should be worth \$97.794 but it's priced at \$92. You should buy the forward at \$92, short-sell the security at \$97, invest the PV (\$4.901) of the coupon for two months at 12%, and invest the rest of the proceeds (97 - 4.901 = 92.099) for six months at 12%. In two months, you can use the cash inflow of \$5 from the investment in V to pay the coupon due to the shorted security. In six months, you receive the cash from the six month investment (92.099 x e(0.12 x 6/12) = \$97.794), pay the delivery price of \$92 on the forward to get the security, and use it to close the short spot position. The risk-free profit will be 97.794 - 92 = \$5.794.