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2. What, to the nearest cent, is the lower bound for the price of a two-year
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European call option on a stock when the stock price is $20, the strike
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price is $15, and the risk-free interest rate with continuous compounding is
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5% and there are no dividends? _ _ _ _ _ _
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3. What is the answer to question 2 if the option is American? _ _ _ _ _ _
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4. What, to the nearest cent, is the lower bound for the price of a six-month
European put option on a stock when the stock price is $40, the strike price
is $46 and the risk-free interest rate with continuous compounding is 6%?
o
______
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v i y re
strike price of $50 is $6. The stock price is $51, the continuously
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8. A call and a put on a stock have the same strike price and time to maturity.
At 10:00am on a certain day, the price of the call is $3 and the price of the
put is $4. At 10:01am news reaches the market that has no effect on the
stock price or interest rates, but increases volatilities. As a result the price
of the call changes to $4.50. What would you expect the price of the put to
change to? _ _ _ _ _ _
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Test Bank: Chapter 11
Trading Strategies Involving Options
1. Six-month call options with strike prices of $35 and $40 cost $6 and $4,
respectively.
(i) What is the maximum gain when a bull spread is created from the
calls?
______
(ii) What is the maximum loss when a bull spread is created from the
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calls?
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______
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o.
(iii) What is the maximum gain when a bear spread is created from the
rs e
calls?
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______
o
(iv) What is the maximum loss when a bear spread is created from the
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v i y re
calls?
______
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2. Three-month European put options with strike prices of $50, $55, and $60
cost $2, $4, and $7, respectively.
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(i) What is the maximum gain when a butterfly spread is created from the
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put options? _ _ _ _ _ _
(ii) What is the maximum loss when a butterfly spread is created from the
put options? ______
(iii) For what two values of the stock price in three months does the holder
of the butterfly spread breakeven with a profit of zero? _ _ _ _ _ _ _
and _ _ _ _ _ _ _
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3. A three-month call with a strike price of $25 costs $2. A three-month put
with a strike price of $20 and costs $3. A trader uses the options to create a
strangle. For what two values of the stock price in three months does the
trader breakeven with a profit of zero?
_ _ _ _ _ _ _ and _ _ _ _ _ _
1. The current price of a non-dividend-paying stock is $30. Over the next six
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months it is expected to rise to $36 or fall to $26. Assume the risk-free rate
e r as
is zero
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(i) What long position in the stock is necessary to hedge a short call
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rs e option when the strike price is $32? Give the number of shares
purchased as a percentage of the number of options that have been
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sold _ _ _ _ _ _
(iii) What long position in the stock is necessary to hedge a long put
option when the strike price is $32. Give the number of shares
purchased as a percentage of the number of options purchased
option _ _ _ _ _ _
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(v) What is the risk neutral probability of the stock price moving up _
sh is
_____
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(a) u e rt
t
(b) u e r
(c) u e t
(d) u e t
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3. In a Cox-Ross-Rubinstein binomial tree the relationship between the
proportional down-movement, d, and the proportional up-movement, u, is
(circle one)
(a) d = u − 1
(b) d = 1/u
(c) d=2−u
(d) None of the above
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and the final nodes
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(d) Increasing the number of time steps on the tree
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(b) Delta is a measure of the position in the underlying stock that should
be taken to hedge an option
(c) Delta is estimated by considering two adjacent nodes on a tree at a
certain time and calculating the difference in option prices divided by
ed d
dx =a dt+b dz
where a = 2, b = 3, and dz is a Wiener process.
(i) What is the mean value of the variable after three years? _ _ _ _ _
(ii) What is the standard deviation of the value of the variable after three years? _ _ _ _ _
(iii) What is the mean value of the variable after six months? _ _ _ _ _
(iv) What is the standard deviation of the value of the variable after six months? _ _ _ _
_
2. A variable, x, starts at 10 and follows a generalized Wiener process
dx=a dt+b dz
During the first two years a = 4 and b = 3. During the following three years a = 6 and b =
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