hard · Quantitative Finance
The BSM derivation assumes 'no arbitrage'. If the hedged portfolio Π earned more than the risk-free rate r, what specific action would an arbitrageur take?
- Borrow cash at the risk-free rate to buy the portfolio Π, locking in a riskless profit.
- Sell the portfolio Π and invest the proceeds in the stock S.
- Buy the stock S and sell the call V without adjusting the hedge ratio Δ.
- Wait for the implied volatility to decrease before entering any trade.
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