Question

Suppose you have the following investments available to you:

a) A zero-coupon bond expiring in 1 year, with a rate of 5%.
b) A zero-coupon bond expiring in 2 years, with a rate of 8%.
c) A futures contract on ALZ corp stock, expiring in I year, with a price of $169−4. d) A futures contract on ALZ corp stock, expiring in 2 years, with a price of $185−6.
ALZ corp stock pays no dividends, and being a stock, has no storage costs. You have $1000 to spend. You can take arbitrarily long and short positions in any security, and shorting does not cost anything. In particular, you can trade (i.e. take arbitrary long and short positions in the underlying ALZ stock), or borrow the underlying ALZ stock for free, at any point in time.
Note I did not give you the price of ALZ stock: this is intentional. What is the maximum expected profit you can make trading these four securities and the underlying ALZ stock, and how do you trade them to achieve this?

Answer 1

Without the current price of ALZ stock, it's not possible to determine a strategy for maximum profit using the given securities. A concrete arbitrage strategy also cannot be formulated due to the lack of information on the stock's price.

Step-by-step explanation:

To calculate the maximum expected profit from trading the four securities and the underlying ALZ stock, we can utilize the concept of arbitrage. With no initial stock price given, an arbitrage opportunity might exist, since we can short and go long on securities without cost. However, there is insufficient information provided to determine a concrete strategy for arbitrage or to calculate an exact profit without the current price of ALZ stock, as such arbitrage strategies usually exploit pricing discrepancies between related securities.

Given the stated securities and the available $1,000 investment, and ignoring possible typos or irrelevant parts of the questions, we need more details to correctly evaluate the situation and compute the maximum profit. For instance, analyzing and comparing the present value of the bonds and the futures contract prices to the spot price of the stock (if known) would be essential. Also, market interest rates and the potential for capitalising on interest rate differentials between the bonds could contribute to an investment strategy. Without the stock's current price, a definitive maximum expected profit and strategy cannot be determined.