Suppose you live in the Fama-French three-factor model world. Goldman Sachs is selling two derivative...
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Finance
Suppose you live in the Fama-French three-factor model world. Goldman Sachs is selling two derivative securities to your company. Both will pay 100 million dollars over a 10 year period. Assume time value of money is zero.
Security A will pay out cash that is positively correlated with economic indicators, thus paying out more when economy is booming and less when economy is tanking.
Security B will pay out cash that is negatively correlated with economic indicators, thus paying out more when economy is tanking and less when economy is booming.
What should be the fair valuation of these two securities at the start of this 10 year period.
Both are smaller than 100 million and A
A=B
Both securities should be priced lower than 100 millions. But A>B
A<100 million; b>100 million
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