Lecture #3 - Ec 136, Financial Economics Lecture 3...

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Ec 136, Financial Economics Lecture 3 September 3
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Outline for today 1. Arbitrage. 2. Short selling. 3. Redundant assets and the law of one price. www.econ.berkeley.edu/~szeidl/ec136/ec136index.htm Readings for this week: BKM Chapter 3. Problem set 1 : due September 8, Tuesday, in class.
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1. Arbitrage that is riskless in the following sense: 1. The opportunity never loses money today or tomorrow. 2. The opportunity makes money today, or it may make money tomorrow. Examples: 1. A package of 12 pencils sells for $1 today, 1 pencil sells for 10 cents today, there are no costs of packaging. 2. A package of 12 pencils sells for $1 today, and money can be borrowed at 5% interest. To- morrow 12 pencils will sell for either $1.05 or $1.20.
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Tomorrow 12 pencils sell for $1.05 Today 12 pencils sell for $1.20
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States and time Finance theory assumes that there are no arbi- trage opportunities, because they are eliminated so quickly that we never observe them. To explore this further, we need a formal way to think about time and uncertainty. Suppose that there are two dates, t = 0 and t = Asset 1
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This note was uploaded on 09/02/2010 for the course ECON 136 taught by Professor Szeidl during the Fall '08 term at University of California, Berkeley.

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Lecture #3 - Ec 136, Financial Economics Lecture 3...

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