You are in the process of analyzing the auto parts industry, and are considering the relative valuations of two industry companies: Amalgated Bumpers (AB), and National Mufflers (NM). Each of the two companies has a single customer: Edsel Motors, and share prices of each company are currently at 26-week highs reflecting the likelihood that Edsel Motors will expand the manufacturing capacity due to huge market demand. You believe that the share price of AB reflects an 75% probability that Edsel expands operations, while NM’s share price reflects a 60% likelihood. These beliefs support the implementation of which of the following strategies? A. taking a short position in NM and a short position in AB. B. taking a short position in NM and a long position in AB. C. taking a long position in NM and a long position in AB. D. taking a long position in NM and a short position in AB.
The motor industry is screwed, short the crap out of them both!
Is it D?
D. Arbitrage opportunity - NM undervalued, AB overvalued. D is market-neutral but you stand to gain no matter what.
Agreed with Newsuper. But really D