Question asks for the return per dollar invested from the arbitrage trade.
Particulars: Stock index currently trading at 734.35, dividends over contract term are $6, risk free rate is 5%, futures contract expires in 205 days and priced at 758.50
No arbitrage futures price = 734.35 * (1.05)^(205/365) - 6 = 748.75.
So we short the futures contract and buy the index
at t = 0:
Short futures at 758.50
borrow 734.35
buy index
at contract expiration:
repay loan: 734.35 * (1.05)^(205/365) = 754.75
deliver index and receive 758.50 + $6 dividends
Total profit = 758.50 + 6 - 754.75 = 9.75
Return = 9.75/734.35 = 1.33%
Answer is C, 7.43%.
Am I doing something wrong?