Table 252 Shows Call Options On To Stock With The

Table 25.2 shows call options on TO stock with the same exercise date in August and with exercise prices $54, $56, and $58. Notice that the July price of the middle call option (with exercise price $56) is less than halfway between the prices of the other 2 calls (with exercise prices $54 and $58). Suppose that this were not the case. For example, suppose that the price of the middle call were the average of the prices of the other 2 calls. Show that if you sell 2 of the middle calls and use the proceeds to buy 1 each of the other calls, your proceeds in July may be positive but cannot be negative despite the fact that your net outlay today is zero. What can you deduce from this example about option pricing?

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