### CFA Practice Question

There are 206 practice questions for this study session.

### CFA Practice Question

A stock is selling for \$50 now. The risk-free rate is 4.5%. A dealer offers to enter into a 2-month forward contract at \$49.9. Suppose this is a "typical" forward contract so no money changes hands at initiation. Also suppose there is no dividend involved. Can you earn an arbitrage profit? If so, how?
A. The stock is priced "correctly" so there is no arbitrage opportunity.
B. Short sell the stock, invest the proceeds at 4.5%, and enter into a forward contract to buy the stock.
C. Borrow money to buy the stock, and enter into a forward contract to sell the stock.
Explanation: S0 = \$50
F(0, T) = \$49.9
T = 2/12
V0(0, T) = 50 - 49.9/1.0452/12 = -\$0.46

As the value is not zero, there is an arbitrage opportunity. This should be obvious without any calculations, since the forward price is lower than the spot price and there is no dividend involved.

You should short sell the stock for \$50, and invest at \$4.5% for two months. At the end of two months you will have \$50.37. You will then execute the forward contract by paying \$49.9 for the stock. The risk-free profit is \$0.47.