If an option portfolio generates a zero cash flow at expiration and a positive cash flow today, an arbitrage opportunity is available.

Question

Quizplus · Accepted Answer

If an option portfolio generates a zero cash flow at expiration and a positive cash flow today, it implies that the options are overpriced. An arbitrage opportunity exists because an investor can purchase the option portfolio today and simultaneously sell a replicating portfolio, which generates an equivalent positive cash flow today but generates a negative cash flow at expiration. By doing this, the investor can lock in a riskless profit.

If an Option Portfolio Generates a Zero Cash Flow at Expiration