Arbitrage, Replication, and the Cost of Carry in Pricing Derivatives
Free CFA Level I lesson in Derivatives. 10 min read, ~1,464 words.
Arbitrage forces the forward price to equal the cost of buying and carrying the underlying. Direction views never enter. Replication builds the derivative payoff from spot plus financing. The portfolio's cost IS the no-arbitrage price. F₀(T) = S₀ × (1 + r)^T + FV(storage) − FV(income). Forward price ≠ expected...
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What this lesson covers
- Content
- Example 1
- Example 2
- Common Mistakes
- Key Takeaways
- Exam Shortcuts
Learning objectives
- arbitrage replication and cost of carry
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