1. Suppose the spot and six-month forward rates on the Denmark krone are Kr 4.18 and kr. 4.30 respectively. The annual risk-free rate in the United States is 6 percent, and the annual risk-free rate in Denmark is 7 percent.
a) Is there an arbitrage opportunity here? If so, show how would you exploit it?
b) What must the six-month forward rate be to prevent arbitrage?
c) Are exchange rate changes necessarily good or bad for a particular company?
2. A stock sells for $95. A call option on the stock has an exercise price of $90 and expires in 3 months. If the interest rate is 0.15 and the standard deviation of the stock's return is 0.30.
a) Calculate the call using the Black-Scholes model. Show all workings.
b) What would be the price of a put with an exercise price of $120 and the same time until expiration? Show all workings.