Adjustment to Risk Free Rate/ Violation of Put-Call Parity

Saied Simozar

Applied Economics and Finance, 2019, vol. 6, issue 6, 80-96

Abstract: The present value of a forward contract for any asset that does not pay a dividend is calculated by discounting its forward price by the risk-free rate. We show that the discount function for assets that have a non-zero correlation with interest rates, has to be adjusted to account for the correlation between the asset and interest rates. Put-Call parity is also violated and needs to be adjusted as well for such assets. It is shown that the risk-free rate is asset dependent. The adjustment to the price is small for short dated forwards, but increases quadratically with time to maturity.

Keywords: put-call parity; discount function; risk-free rate; options; forward pricing (search for similar items in EconPapers)
Date: 2019
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