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by PierreBoulez
February 18th, 2019, 4:22 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Paul! To be fair, I am wiling to pay money to get a correct no arbitrage argument in the above scenario (where shorting the option doesn't give you enough money to buy the stock), conversely also willing to pay money to get an explanation reasoning why such a scenario can't even exist.
by PierreBoulez
February 18th, 2019, 3:32 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Thanks bearish! So, am I correct in assuming that when considering risk-free portfolios, there is absolutely no need for a no-arbitrage argument?
by PierreBoulez
February 18th, 2019, 3:00 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Thank you!
So, if you can earn less - why is the risk-less portfolio earning the risk-free rate?
Can you give a construction of the no arbitrage argument for the case where shorting the option doesn't give you enough money to buy the stock?
by PierreBoulez
February 18th, 2019, 2:42 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

I feel so stupid right now, because now I'm again confused by your previous message. I don't agree with the concept. Even though the portfolio is risk-free, why does it need to earn the risk-free rate? Do we assume that the risk-free rate influences *everything*? Or is it more like the real world, w...
by PierreBoulez
February 18th, 2019, 12:20 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Why will my inheritance today be worth that amount? It seems that your answer already assumes that the return on the portfolio equals the risk free rate, but I'm looking for proof that it does! When assuming it earns more than the risk free rate, there is a contradiction to the no-arbitrage argument...
by PierreBoulez
February 18th, 2019, 10:38 am
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Thank you for being patient! I'm trying to slow down but I still don't understand :( Yes, tomorrow the value of the portfolio is the same, as we constructed it to be risk-free. I recognize that this is the example from the book, and that under a risk-free rate of 0 assumption it means that the value...
by PierreBoulez
February 18th, 2019, 10:12 am
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Thank you so much for keeping an eye on this thread! I'm not sure I'm following - if you inherited a European option and a short stock position, and will have waited a single turn for the expiration of the option, by the construction of this portfolio you will have made a risk-free return, but under...
by PierreBoulez
February 18th, 2019, 9:50 am
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Hi Paul, Thanks so much for answering, I feel honored! Even if you inherited an option and a short, because the return of option + short is less than the risk free, we want to show an arbitrage opportunity. You described that arbitrage can be done like so: 1. Sell your European option, get money. 2....
by PierreBoulez
February 18th, 2019, 7:13 am
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Thank you for all your replies! I understand why the replicating portfolio together with the hedge is risk free ("constructs a risk-free portfolio using an option, and a short on the underlying to hedge the risk"). The whole crux of the arbitrage argument in this case lies on the possibility of shor...
by PierreBoulez
February 17th, 2019, 8:03 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Re: Arbitrage when risk-free portfolio earns less than riskless portfolio

Thank you bearish! Construction of a replicating portfolio is actually the one thing I do understand, but my problem is with a risk-free portfolio. You wrote "you sell (or write, in the lingo) the option and follow the opposite of the replicating strategy. You will, once again, have some cash upfron...
by PierreBoulez
February 17th, 2019, 4:37 pm
Forum: Student Forum
Topic: Arbitrage when risk-free portfolio earns less than riskless portfolio
Replies: 43
Views: 6093

Arbitrage when risk-free portfolio earns less than riskless portfolio

Hi, I'm currently reading Paul Wilmott's excellent book on option pricing. Near the beginning, he constructs a risk-free portfolio using an option, and a short on the underlying to hedge the risk. I'm specifically interested in European options. A no-arbitrage argument follows: If this portfolio ear...
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