Docstoc

Week 11 Assessment

Document Sample
Week 11 Assessment Powered By Docstoc
					Chapter 20, Problem 5, Parts a, b, c, Page 760
5. The common stock of Company XYZ is currently trading at a price of $42, Both a put and a call
option are available for XYZ stock, each having an exercise price of $40 and an expiration date in
exactly six months. The current market prices for the put and call are $1.45 and $3.90, respectively.
The risk-free holding period return for the next six months is 4 percent, which corresponds to an
8 percent annual rate.

a. For each possible stock price in the following sequence, calculate the expiration date payoffs (net
of the initial purchase price) for the following positions: (1) buy one XYZ call option, and (2) short
one XYZ call option.
                                        (1) Buy One XYZ Call Option
                 Enter Exercise Price of Option 40.00                    Enter Correct Data from Problem
                     Enter Price of Call Option     3.90

                                                           Initial          Stock
                                     Payoff              Premium            Price    Net Profit
                                                     0          3.90          20         (3.90)
                                                     0          3.90          25         (3.90)
                                                     0          3.90          30         (3.90)
                                                     0          3.90          35         (3.90)
                                                     0          3.90          40         (3.90)
                                                     5          3.90          45          1.10
                                                    10          3.90          50          6.10
                                                    15          3.90          55        11.10
                                                    20          3.90          60        16.10

                       Draw a graph of these payoff relationships, using net profit on the vertical axis.
                       Be sure to specify the prices at which these respective positions will break even
                       (i.e., produce a net profit of zero).


                                                                  Buy One XYZ Call Option
                                                    20.00

                                                    15.00

                                                    10.00
                                       Net Profit




                                                      5.00

                                                      0.00
                                                              0        10       20      30        40   50   60
                                                     (5.00)

                                                    (10.00)
                                                                                        Stock Price
                                     (2) Short One XYZ Call Option
               Enter Exercise Price of Option                                      Enter Correct Data from Problem
                   Enter Price of Call Option

                                                               Initial     Stock
                                      Payoff                 Premium       Price   Net Profit
                                                      0             0.00     20         0.00
                                                      0             0.00     25         0.00
                                                      0             0.00     30         0.00
                                                      0             0.00     35         0.00
                                                      0             0.00     40         0.00
                                                     45             0.00     45      (45.00)
                                                     50             0.00     50      (50.00)
                                                     55             0.00     55      (55.00)
                                                     60             0.00     60      (60.00)


                                                                Short One XYZ Call Option
                                                   10.00
                                                     0.00
                                                   (10.00) 0          10      20     30         40   50    60        70

                                                   (20.00)
                                      Net Profit




                                                   (30.00)
                                                   (40.00)
                                                   (50.00)
                                                   (60.00)
                                                   (70.00)
                                                                                     Stock Price




b. Using the same potential stock prices as in Part a, calculate the expiration date payoffs and profits
(Net of initial purchase price) for the following positions: (1) buy one XYZ put option, and (2) short one
XYZ put option. Draw a graph of these relationships, labeling the prices at which these investments
will break even.

                                      (1) Buy One XYZ Put Option
               Enter Exercise Price of Option                                      Enter Correct Data from Problem
                   Enter Price of Put Option

                                                               Initial     Stock
                                      Payoff                 Premium       Price   Net Profit
                                   -20            0.00     20        (20.00)
                                   -25            0.00     25        (25.00)
                                   -30            0.00     30        (30.00)
                                   -35            0.00     35        (35.00)
                                     0            0.00     40          0.00
                                     0            0.00     45          0.00
                                     0            0.00     50          0.00
                                     0            0.00     55          0.00
                                     0            0.00     60          0.00


                                                Buy One XYZ Put Option
                                    5.00
                                    0.00
                                   (5.00) 0          10      20     30         40   50    60        70
                                  (10.00)
                     Net Profit




                                  (15.00)
                                  (20.00)
                                  (25.00)
                                  (30.00)
                                  (35.00)
                                  (40.00)
                                                                    Stock Price




                      (2) Short One XYZ Put Option
Enter Exercise Price of Option                                    Enter Correct Data from Problem
    Enter Price of Put Option

                                              Initial     Stock
                    Payoff                  Premium       Price   Net Profit
                                      0            0.00     20         0.00
                                      0            0.00     25         0.00
                                      0            0.00     30         0.00
                                      0            0.00     35         0.00
                                      0            0.00     40         0.00
                                      0            0.00     45         0.00
                                      0            0.00     50         0.00
                                      0            0.00     55         0.00
                                      0            0.00     60         0.00


                                               Short One XYZ Put Option
                                  1.00
                                                 1.00

                                                 0.80




                                    Net Profit
                                                 0.60

                                                 0.40

                                                 0.20

                                                 0.00
                                                        0          10   20      30        40       50   60       70
                                                                                 Stock Price




c. Determine whether the $2.45 difference in the market prices between the call and put options is consistent with
the put-call parity relationship for European-style contracts.

                       Enter Call Premium                                      Enter Correct Data from Problem
                        Enter Put Premium
                       Enter Exercise Price
                       Enter Risk-free Rate
                          Enter Stock Price
       Enter Number of Months to Maturity

                          Call                   -          Put         =      Stock Price     -        PV Exercise Price

                         0.00                               0.00                  0.00                  0.00

                                                            0.00                   0.00
                                                               Put Call Parity holds
70
70
70
            70




ptions is consistent with




   PV Exercise Price
Chapter 21, Problem 2, Page 796
You are a coffee dealer anticipating the purchase of 82,000 pounds of coffee in three months. You are
concerned that the price of coffee will rise, so you take a position in coffee futures. Each contract
covers 37,500 pounds, and so, rounding to the nearest contract, you decide to go long in two contracts.
The futures price at the time you initiate your hedge is 55.95 cents per pound. Three months later,
the actual spot price of coffee turns out to be 58.56 cents per pound and the futures price is 59.20 cents
per pound.

a. Determine the effective price at which you purchased your coffee?
How do you account for the difference n amounts for the spot and hedge positions?
*


                                                            Determining Effective Price
               Futures Contract Beginning Price of Coffee per Pound
                  Futures Contract Ending Price of Coffee per Pound
                 Spot Price of Coffee in 3 Months (cents per pound)
                             Pounds of Coffee in 1 Futures Contract
                            Number of Futures Contracts Purchased
                 Total Number of Pounds of Coffee to be Purchased

         Number of Pounds of Coffee Covered by Futures Contracts           0
                                   Initial Cost of Futures Contract      0.00
                                 Ending Value of Futures Contract        0.00
                                 Gain or Loss on Futures Contract        0.00

                            Cash Cost for First     0       Pounds      0.00
                             Net Cost for First     0       Pounds      0.00   Cash Cost Less Futures Contract Gain or Loss
            Effective Per Pound Cost for First      0       Pounds     #DIV/0!

                 Cost to Purchase Remaining         0       Pounds      0.00
                                Total Cost for      0       Pounds      0.00   Excluding Gain/Loss on Futures Contract
                 Effective Cost per Pound for       0       Pounds     #DIV/0! Excluding Gain/Loss on Futures Contract
                 Effective Cost per Pound for       0       Pounds     #DIV/0! Including Gain/Loss on Futures Contract




b. Describe the nature of basis risk in this long hedge.
hs. You are

wo contracts.

 s 59.20 cents




Less Futures Contract Gain or Loss




Gain/Loss on Futures Contract
Gain/Loss on Futures Contract
Gain/Loss on Futures Contract
Chapter 21, Problem 7, Page 797
Suppose that one day in early April, you observe the following prices on futures contracts maturing
in June: 93.35 for Eurodollar and 94.07 for T-bill. These prices imply three-month LIBOR and T-bill
settlement yields of 6.65 percent and 5.93, respectively. You think that over the next quarter the
general level of interest rates will rise while the credit spread built into LIBOR will widen.
Demonstrate how you can use a TED (Treasury/Eurodollar) spread, which is a simultaneous
long (short) position in a Eurodollar contract and short (long) position in the T-bill contract, to
create a position that will benefit from these views.
(Note: See discussion of TED spread on pages 780-781.)

                                                              T-Bill and Eurodollar Futures Contracts

                                                                             Spread       Settlemen Settlemen
                                                                              (Basis       t Yield T-   t Yield
                                                  T-bill       Eurodollar    Points)           bill   Eurodollar
                              June Contracts                                   0.00         100.00     100.00

           September Contracts (Estimated)                                     0.00        100.00      100.00

                                   Position = Long T-bill Contract; Short Eurodollar Contract
                                              Profit on Transaction is Caculated as:

                                                        Evaluating the Position
                                            (New TED spread) - (Original TED spread)                 Total Gain
                      Change in TED spreads    0.00            -          0.00       =                  0.00

                    Returns on Components           0.00           -           0.00           =         0.00
                                               Loss on Long                 Gain on
                                               Position in                  Short
                                               T-Bill                       Position in
                                                                            Eurodollar
Basis Points

Basis Points
Chapter 22, Problem No. 5, Page 842

Consider the following questions on the pricing of options on the stock of ARB Inc.:

a. A share of ARB stock sells for $75 and has a standard deviation of returns equal to 20 percent per year.
The current risk-free rate is 9 percent and the stock pays two dividends: (1) a $2 dividend just prior
to the option's expiration day, which is 91 days from now (i.e., exactly one-quarter of a year); and,
(2) a $2 dividend 182 days from now (i.e., exactly one-half year).
Calculate the Black-Scholes value for a European-style call option with an exercise price of $70.

           The attached model will calculate the Black-Scholes and Binominal Option Pricing Model
           values for the call option.


b. What would be the price of a 91-day European-style put option on ARB stock having the same
exercise price:

           The attached model automatically calculates the Black-Scholes and Binomial Option Pricing Model
           values for the put option.

           Alternatively, Put-Call Parity can be used to solve for the value of the put option.

                                      Enter Call Premium
                                      Enter Exercise Price
                                      Enter Risk-free Rate
                                         Enter Stock Price
                                       Dividend Payment
                      Enter Number of Months to Maturity
                                                       exp                Value is 2.7183

               Call           -     Stock Price     +           PV Exercise Price           =       Put

              0.00            -        0.00         +         #NUM!                         =     #NUM!



c. Calculate the change in the call option's value that would occur if ARB's management suddenly decided
to suspend dividend payments and this action had no effect on the price of the company's stock.

                  The new call option price is               , which is      0.00       greater than the initial value of



d. Briefly describe (without calculations) how your answer in Part a would differ under the following separate circumstances:

           Note: See page 819 to learn how changes in factors affect Black-Scholes Option Values.
rcent per year.




tion Pricing Model




ddenly decided


 than the initial value of          0.00   .



following separate circumstances:
Chapter 22, Problem 11, Page 844
In mid-May, there are two outstanding call option contracts available on the stock of ARB Co.:

                                                                                                      Number
                                          Exercise        Expiration     Market                      Purchased
                          Call #           Price            Date          Price                       or Sold
                            1                50            Aug. 19          8.40                          1
                            2                60            Aug. 19          3.34                          2

a. Assuming that you form a portfolio consisting of one Call #1 held long, and two Calls #2 held short,
complete the following table showing your intermediate steps. In calculating net profit, be sure to
include the net initial cost of the options.




                                                                       Price of ARB
                       Initial Cost       Profit on       Profit on      Stock at       Net Profit
                            of             Call #1         Call #2      Expiration      on Total
                        Portfolio         Position        Position          ($)         Portfolio
                          (1.72)            0.00            0.00            40           (1.72)
                          (1.72)            0.00            0.00            45           (1.72)
                          (1.72)            0.00            0.00            50           (1.72)
                          (1.72)            5.00            0.00            55            3.28
                          (1.72)           10.00            0.00            60            8.28
                          (1.72)           15.00           (10.00)          65            3.28
                          (1.72)           20.00           (20.00)          70           (1.72)
                          (1.72)           25.00           (30.00)          75           (6.72)



b. Graph the net profit relationship in Part a, using stock price on the horizontal axis. What is
(are) the breakeven stock price(s)? What is the point of maximum profit?


                                                      Net Profit on Total Portfolio
                                    10
                                N     8
                                e
                                      6
                                t
                                      4
                                      2
                                P
                                r    0
                                o   -2 40            45       50       55          60      65        70       75   80
                                f   -4
                                i   -6
                                t   -8
                                                                             Stock Price
                                                                     Stock Price




                       Breakeven on Low Side:
                             Occurs at Long Call Strike Price       50       plus              1.72      or total of,

                       Breakeven on High Side:
                                 Occurs with the position's cost, (1.72), Profit on the Call (P - Strike), and loss on the short c




c. Under what market conditions will this strategy (which is known as a call ratio spread ), generally make sense?
Does the holder of this position have limited or unlimited liability?
Enter correct data from problem!
                51.72    ,to cover cost.



, and loss on the short calls 2(Strike - P) equal zero:




make sense?
Week 11, Assignment No. 5, Essay Question, "Ethics and Regulation in the Professional Asset Management Industry"

Chapter 24 identifies and discusses ethical conflicts that can arise between professional investment managers
(e.g., financial advisors, investment counselors, etc.) and investors whose assets they are employed to manage.

a. Describe at least three potential ethical conflicts that can arise between financial advisors and investors.
This explanation should describe the basis for the conflict (what causes it?) and how it is potentially
damaging to the investor? Be specific.

b. How should government legislation (laws) and regulatory oversight (regulations) be structured
to protect individual investors from such conflicts? Please be specific.
set Management Industry"

estment managers
mployed to manage.

s and investors.
                                                       f2e30216-0460-43e0-8ec2-6b03ad6358d0.xlsx




                                  Black-Scholes-Merton and Binomial Option Pricing
                                                   BSMbin7e.xls


Inputs:                                                   Black-Scholes-Merton Model           Binomial Model                  Run Binomial
                                                                                                                                  Model
Asset price (S0)                   75                                    European     European    Steps:               100
Exercise price (X)                 70                                         Call         Put                   European     European
Time to expiration (T)         0.2500                           Price    #NAME?      #NAME?                            Call         Put
Standard deviation (s)        20.00%                         Delta (D)   #NAME?      #NAME?         Price           5.6500       1.1135
                                         discrete          Gamma (G)                             Delta (D)
Risk-free rate (r or rc)       9.00%                                     #NAME?      #NAME?                         0.7542      -0.2458
                                         continuous
Dividends:                     0.00%                        Theta (Q)    #NAME?      #NAME?    Gamma (G)            0.0429       0.0429
  continuous yield (dc) or discrete dividends below:            Vega #NAME?          #NAME?         Theta (Q)     -8.8598       -2.9559
                                                                 Rho #NAME?          #NAME?                      American     American
  In lieu of a continuously compounded yield, place below                                                             Call          Put
  up to fifty discrete dividends and the time in years to           d1 #NAME?                           Price      7.1310        1.1135
  each ex-dividend date. Leave all unused cells blank.
  Set the yield above to zero. If yield is not set to zero,         d2 #NAME?                        Delta (D)     0.8361       -0.2458
  all discrete dividends are disregarded.                        N(d1) #NAME?                      Gamma (G)        0.0338       0.0429
                                                                 N(d2) #NAME?                       Theta (Q)      -8.2735      -2.9559


  Dividend #       Dividend Time to ex    Present
           1        2.0000     0.2500      1.9555
           2                               0.0000
           3                               0.0000
           4                               0.0000
           5                               0.0000
           6                               0.0000
           7                               0.0000
           8                               0.0000
           9                               0.0000
          10                               0.0000
          11                               0.0000
          12                               0.0000
          13                               0.0000
          14                               0.0000
          15                               0.0000
          16                               0.0000
          17                               0.0000
          18                               0.0000
          19                               0.0000
          20                               0.0000
          21                               0.0000
          22                               0.0000
          23                               0.0000
          24                               0.0000
          25                               0.0000
          26                               0.0000
          27                               0.0000
          28                               0.0000
          29                               0.0000
          30                               0.0000
          31                               0.0000
          32                               0.0000
          33                               0.0000
          34                               0.0000
          35                               0.0000
          36                               0.0000
          37                               0.0000
          38                               0.0000
          39                               0.0000
          40                               0.0000
          41                               0.0000
          42                               0.0000
          43                               0.0000




                                                                          Page 21
                                        f2e30216-0460-43e0-8ec2-6b03ad6358d0.xlsx



        44                     0.0000
        45                     0.0000
        46                     0.0000
        47                     0.0000
        48                     0.0000
        49                     0.0000
        50                     0.0000
========== ======== ======== =======
                    Sum        0.0000




                                                         Page 22
Instructions:

Insert values in highlighted cells. Risk-free rate, standard deviation and yield can be
entered as decimal or percentage (e.g., .052 or 5.2 for 5.2 %). Select form (discrete
or continuous) for risk-free rate. Black-Scholes values automatically recalculate.
Click on "Run Binomial Option Pricing Model" button to recalculate binomial values.
Input cells have double borders. Output cells have single borders. Up to 1,000 time
steps can be used in the binomial model.

Input a continuous dividend yield or up to 50 discrete dividends. Do not enter both
or the discrete dividends will be ignored.

This spreadsheet can be used to calculate options on forwards or futures using the
Black variation of the Black-Scholes model. Input the forward or futures price
instead of the asset price and input the risk-free rate as both the risk-free rate and
the dividend yield. Do not enter discrete dividends.

To price foreign currency options, input the spot rate as the asset price, the domestic
interest rate as the risk-free rate and the foreign interest rate as the dividend yield.
Do not enter discrete dividends.
Written by Don M. Chance and Robert E. Brooks
For use with An Introduction to Derivatives and Risk Management,
7th ed.
(Mason, Ohio: South-Western Thomson, Inc., 2007)
Date: 9/02
Last updated: 12/28/05
                                                       f2e30216-0460-43e0-8ec2-6b03ad6358d0.xlsx




                                  Black-Scholes-Merton and Binomial Option Pricing
                                                   BSMbin7e.xls


Inputs:                                                   Black-Scholes-Merton Model           Binomial Model                  Run Binomial
                                                                                                                                  Model
Asset price (S0)                   75                                    European     European    Steps:               100
Exercise price (X)                 70                                         Call         Put                   European     European
Time to expiration (T)         0.2500                           Price    #NAME?      #NAME?                            Call         Put
Standard deviation (s)        20.00%                         Delta (D)   #NAME?      #NAME?         Price           5.6500       1.1135
                                         discrete          Gamma (G)                             Delta (D)
Risk-free rate (r or rc)       9.00%                                     #NAME?      #NAME?                         0.7542      -0.2458
                                         continuous
Dividends:                     0.00%                        Theta (Q)    #NAME?      #NAME?    Gamma (G)            0.0429       0.0429
  continuous yield (dc) or discrete dividends below:            Vega #NAME?          #NAME?         Theta (Q)     -8.8598       -2.9559
                                                                 Rho #NAME?          #NAME?                      American     American
  In lieu of a continuously compounded yield, place below                                                             Call          Put
  up to fifty discrete dividends and the time in years to           d1 #NAME?                           Price      7.1310        1.1135
  each ex-dividend date. Leave all unused cells blank.
  Set the yield above to zero. If yield is not set to zero,         d2 #NAME?                        Delta (D)     0.8361       -0.2458
  all discrete dividends are disregarded.                        N(d1) #NAME?                      Gamma (G)        0.0338       0.0429
                                                                 N(d2) #NAME?                       Theta (Q)      -8.2735      -2.9559


  Dividend #       Dividend Time to ex    Present
           1                               0.0000
           2                               0.0000
           3                               0.0000
           4                               0.0000
           5                               0.0000
           6                               0.0000
           7                               0.0000
           8                               0.0000
           9                               0.0000
          10                               0.0000
          11                               0.0000
          12                               0.0000
          13                               0.0000
          14                               0.0000
          15                               0.0000
          16                               0.0000
          17                               0.0000
          18                               0.0000
          19                               0.0000
          20                               0.0000
          21                               0.0000
          22                               0.0000
          23                               0.0000
          24                               0.0000
          25                               0.0000
          26                               0.0000
          27                               0.0000
          28                               0.0000
          29                               0.0000
          30                               0.0000
          31                               0.0000
          32                               0.0000
          33                               0.0000
          34                               0.0000
          35                               0.0000
          36                               0.0000
          37                               0.0000
          38                               0.0000
          39                               0.0000
          40                               0.0000
          41                               0.0000
          42                               0.0000
          43                               0.0000




                                                                          Page 26
                                        f2e30216-0460-43e0-8ec2-6b03ad6358d0.xlsx



        44                     0.0000
        45                     0.0000
        46                     0.0000
        47                     0.0000
        48                     0.0000
        49                     0.0000
        50                     0.0000
========== ======== ======== =======
                    Sum        0.0000




                                                         Page 27
Instructions:

Insert values in highlighted cells. Risk-free rate, standard deviation and yield can be
entered as decimal or percentage (e.g., .052 or 5.2 for 5.2 %). Select form (discrete
or continuous) for risk-free rate. Black-Scholes values automatically recalculate.
Click on "Run Binomial Option Pricing Model" button to recalculate binomial values.
Input cells have double borders. Output cells have single borders. Up to 1,000 time
steps can be used in the binomial model.

Input a continuous dividend yield or up to 50 discrete dividends. Do not enter both
or the discrete dividends will be ignored.

This spreadsheet can be used to calculate options on forwards or futures using the
Black variation of the Black-Scholes model. Input the forward or futures price
instead of the asset price and input the risk-free rate as both the risk-free rate and
the dividend yield. Do not enter discrete dividends.

To price foreign currency options, input the spot rate as the asset price, the domestic
interest rate as the risk-free rate and the foreign interest rate as the dividend yield.
Do not enter discrete dividends.
Written by Don M. Chance and Robert E. Brooks
For use with An Introduction to Derivatives and Risk Management,
7th ed.
(Mason, Ohio: South-Western Thomson, Inc., 2007)
Date: 9/02
Last updated: 12/28/05

				
DOCUMENT INFO
Shared By:
Categories:
Tags:
Stats:
views:3
posted:2/16/2012
language:
pages:30