Answer: permitted with full use of proceeds.

## Explanation Under the Black-Scholes-Merton model, **short selling is permitted with full use of proceeds** (Option B). This assumption is crucial because: 1. **Perfect markets**: The model assumes frictionless markets where short selling is allowed without restrictions 2. **Full use of proceeds**: When an investor sells short, they receive the full proceeds from the sale and can use these funds to invest in other assets, typically risk-free bonds 3. **No-arbitrage pricing**: This assumption enables the creation of riskless hedged portfolios through dynamic trading strategies that involve both long and short positions 4. **Replication**: The ability to short sell with full proceeds is essential for replicating option payoffs through the no-arbitrage approach Options A and C are incorrect because: - A: Short selling is permitted, not prohibited - C: There are no restrictions on the use of proceeds from short sales The model assumes markets are perfectly efficient with no transaction costs, taxes, or restrictions on short selling.

Author: LeetQuiz Editorial Team