KIC000027 - Arbitrage: Example Arbitrage: Example Since the...

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Unformatted text preview: Arbitrage: Example Arbitrage: Example Since the T-note and the two T-bills together give the same future cash flows, an arbitrage opportunity exists if the sum of the T-bill prices differs from the T-note price . For example, suppose: Pricer .... , = $980,000 Price.moT-bill = $9,500 Price, "T-bill = $970,000 Then you can profit by Selling the T-note short and Buying both T-bills Suppose aT-note gives the follov.1ng cash flows: Date: Today I 6mo I Iyr I Cashflow: $10,000 51,000,000 Suppose T-bills exist that give the following cash flows: Date: Today 6mo Iyr I I I i Cashflow: $10,000 Date: Today 6mo Iyr I I , i Cashflow: $1,000,000 Arbitrage Pricing Theory Arbitrage Pricing Theory The APT posits one or more economic factors (not necessarily a single market factor like the CAPM) that drive security returnS and for which investors must therefore be compensated. But what are the factors? Factors must be A pervasive market.wide influence on expected stock returns (Finn specific events are not APT risk factors-) Unpredictable.in their. outcome. Factors may include (but are not limited to): Unanticipated inflation Interest rate shock Unanticipated change in GNP Unanticipated changes in the default risk premium The critical property...
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This note was uploaded on 09/07/2011 for the course FINANCE 320 taught by Professor Sapp during the Fall '10 term at Iowa State.

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KIC000027 - Arbitrage: Example Arbitrage: Example Since the...

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