Questions / Quant trading, Option pricing models
A parity violation
European call and put struck at 100 trade at 8 and 3. The stock is 100, rates are zero and there are no dividends. What riskless profit per share can you lock in?
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Answer: 5 USD
- Parity says C − P = S − K = 0.
- Observed C − P = 5, so the call is rich.
- Sell the call, buy the put and buy the stock: pay 95 now, receive 100 at expiry.
Interview shortcut. Gap = (C − P) − (S − K) = 5 − 0.
Takeaway. Parity gaps are arbitrage, not views.
In the app this has a follow-up where one thing about the setup changes. Try the follow-up.