solution

An investor has just
taken a short position in a 9-month crude oil forward contract. The oil price
today is £50 per barrel, and the risk-free rate of interest is 7% per annum
with continuous compounding. Storage costs of £2.5 are paid at the end of 3 and
6 months, respectively.

i. What is the price and the initial value of
the forward contract? (7 marks)

ii. If the futures price
in the market is £60 what arbitrage opportunities does this create? Show all
the calculations. (10 marks)

iii. What value of the
storage cost would prevent arbitrage opportunities? (8 marks)

b) Why is an American
call option on a dividend-paying stock is always worth at least as much as its
intrinsic value. Is the same true of a European call option? Explain your
answer. (15 marks)

c) Briefly discuss the
differences between exchange-based and OTC trading (10 marks)