Consider the following portfolio of European options on the euro: A short position in a call with strike price USD1.3/EUR and a long position in a put with the same strike price and same time to maturity.
1. Draw the payo? pro?le of this option portfolio.
2. Form a portfolio consisting of domestic and foreign money-market instruments (de-posits/loans) that replicates the payo? of the option portfolio.
3. Express the present value of the option portfolio (p0 − c0) as the present value of the money market instruments which form the replicating portfolio.