# Arbitrage

At time 0.5, the price of $1 par of a zero maturing at time 1 will be either $0.96 or $0.98. The current price of the zero maturing at time 1 is $0.94 and the current price of the zero maturing at time 0.5 is $0.97. Consider also a claim that pays off $1 at time 0.5 if the zero maturing at time 1 is worth $0.96, and 0 otherwise. This information is summarized in the payoff diagrams below (see attached file).

Determine a portfolio of the 0.5- and 1-year zeroes that has the same payoff as the claim at time 0.5.What is the value of the claim today in the absence of arbitrage? What are the risk-neutral probabilities of the two possible time 0.5 values of the zero maturing at time 1?

© BrainMass Inc. brainmass.com June 3, 2020, 11:00 pm ad1c9bdddfhttps://brainmass.com/business/arbitrage-pricing-theory/arbitrage-258763

#### Solution Summary

The solution is very easy to understand and concise. It is an excellent response for students who want to understand the concepts and then use the same concepts to solve similar problems in the future. Overall, an excellent response. The solution provides the necessary steps which are easy to follow.