Fin 550 week 10 homework



Week 10

Chapter 22: Problems 3(a-d), 5(a-d), 7(a-c), 10(a-b), and 12

Chapter 24: Problems 3(a-d), 6(a-c), 8(a-c), and 10(a-c) 



•Chapter 22: Problems 3(a-d), 5(a-d), 7(a-c), 10(a-b), and 12

3. Assuming that a one- year call option with an exercise price of $ 38 is available for the stock of the DEW Corp., consider the following price tree for DEW stock over the next year:

Now   S1   S2  One Year




a. If the sequence of stock prices that DEW stock follows over the year is $ 40.00, $ 42.00, $ 40.32, and $ 38.71, describe the composition of the initial riskless portfolio of stock and options you would form and all the subsequent adjustments you would have to make to keep this portfolio riskless. Assume the one- year risk- free rate is 6 percent.

b. Given the initial DEW price of $ 40, what are the probabilities of observing each of the four terminal stock prices in one year? ( Hint: In arriving at your answer, it will be useful to consider ( 1) the number of different ways that a particular terminal price could be achieved and ( 2) the probability of an up or down movement.)

b. Given the initial DEW price of $ 40, what are the probabilities of observing each of the four terminal stock prices in one year? ( Hint: In arriving at your answer, it will be useful to consider ( 1) the number of different ways that a particular terminal price could be achieved and ( 2) the probability of an up or down movement.)

5. 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 divi-dends: ( 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. b. What would be the price of a 91- day European- style put option on ARB stock having the same exercise price? 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. d. Briefly describe ( without calculations) how your answer in Part a would differ under the following separate circumstances: ( 1) the volatility of ARB stock increases to 30 percent, and ( 2) the risk- free rate decreases to 8 percent.

7. Suppose the current value of a popular stock index is 653.50 and the dividend yield on the index is 2.8 percent. Also, the yield curve is flat at a continuously compounded rate of 5.5 percent. a. If you estimate the volatility factor for the index to be 16 percent, calculate the value of an index call option with an exercise price of 670 and an expiration date in exactly three months. b. If the actual market price of this option is $ 17.40, calculate its implied volatility coefficient. c. Besides volatility estimation error, explain why your valuation and the option’s traded price might differ from one another.

10. Melissa Simmons is the chief investment officer of a hedge fund specializing in options trading. She is currently back- testing various option trading strategies that will allow her to profit from large fluctuations— either up or down— in a stock’s price. An example of such typical trading strategy is straddle strategy that involves the combination of a long call and a long put with an identical strike price and time to maturity. She is considering the following pricing information on securities associated with Friendwork, a new Inter-net start- up hosting a leading online social network: Friendwork stock: $ 100 Call option with an exercise price of $ 100 expiring in one year: $ 9 Put option with an exercise price of $ 100 expiring in one year: $ 8

a. Use the above information on Friendwork and draw a diagram showing the net profit/ loss position at maturity for the straddle strategy. Clearly label on the graph the break-even points of the position. b. Melissa’s colleague proposes another lower- cost option strategy that would profit from a large fluctuation in Friendwork’s stock price: Long call option with an exercise price of $ 110 expiring in one year: $ 6 Long put option with an exercise price of $ 90 expiring in one year: $ 5 Similar to Part a, draw a diagram showing the net profit/ loss position for the above alter-native option strategy. Clearly label on the graph the breakeven points of the position.


12. In developing the butterfly spread position, we showed that it could be broken down into two call option money spreads. Using the price data for SAS stock options from Exhibit 22.17, demonstrate how a butterfly profit structure similar to that shown in Exhibit 22.30 could be created using put options. Be specific as to the contract positions involved in the trade and show the expiration date net payoffs for the combined transaction.

•Chapter 24: Problems 3(a-d), 6(a-c), 8(a-c), and 10(a-c)

3. Consider the recent performance of the Closed Fund, a closed- end fund devoted to find-ing undervalued, thinly traded stocks:

Period    NAV    Premium/ Discount

0  $10.00  0.0%

1  11.25  -5.0

2  9.85  +2.3

3   10.50  -3.2

4  12.30  -7.0

Here, price premiums and discounts are indicated by pluses and minuses, respectively, and Period 0 represents Closed Fund’s initiation date. a. Calculate the average return per period for an investor who bought 100 shares of the Closed Fund at the initiation and then sold her position at the end of Period 4. b. What was the average periodic growth rate in NAV over that same period? c. Calculate the periodic return for another investor who bought 100 shares of Closed Fund at the end of Period 1 and sold his position at the end of Period 2. d. What was the periodic growth rate in NAV between Periods 1 and 2?

6. Suppose that at the start of the year, a no- load mutual fund has a net asset value of $ 27.15 per share. During the year, it pays its shareholders a capital gain and dividend dis-tribution of $ 1.12 per share and finishes the year with an NAV of $ 30.34.

a. What is the return to an investor who holds 257.876 shares of this fund in his ( non-taxable) retirement account?

b. What is the after- tax return for the same investor if these shares were held in an ordi-nary savings account? Assume that the investor is in the 30 percent tax bracket.

c. If the investment company allowed the investor to automatically reinvest his cash dis-tribution in additional fund shares, how many additional shares could the investor ac-quire? Assume that the distribution occurred at year end and that the proceeds from the distribution can be reinvested at the year- end NAV.

8. Mutual funds can effectively charge sales fees in one of three ways: front- end load fees, 12b- 1 ( i. e., annual) fees, or deferred ( i. e., back- end) load fees. Assume that the SAS Fund offers its investors the choice of the following sales fee arrangements: ( 1) a 3 per-cent front- end load, ( 2) a 0.50 percent annual deduction, or ( 3) a 2 percent back- end load, paid at the liquidation of the investor’s position. Also, assume that SAS Fund averages NAV growth of 12 percent per year.

a. If you start with $ 100,000 in investment capital, calculate what an investment in SAS would be worth in three years under each of the proposed sales fee schemes. Which scheme would you choose?

b. If your investment horizon were 10 years, would your answer in Part a change? Demonstrate.

c. Explain the relationship between the timing of the sales charge and your investment horizon. In general, if you intend to hold your position for a long time, which fee arrangement would you prefer?

10. Peter and Andrea Mueller have built up their $ 600,000 investment portfolio over many years through regular purchases of mutual funds holding only U. S. securities. Each pur-chase was based on personal research but without consideration of their other holdings. They would now like advice on their

   Type  Market   Sector     Beta  Percent of Total 

Andrea’s company stock Stock    Small- cap growth   1.40  35

Blue- chip growth fund  Stock  Large- cap growth   1.20  20

Super- beta fund   Stock   Small- cap growth   1.60  10

Conservative fund   Stock  Large- cap value   1.05   2

Index fund  Stock  Large- cap index  1.00   3

No- dividend fund   Stock  Large- cap growth  1.25  25

Long- term zero-coupon fund Bond  Government   —   5

Evaluate the Muellers’ portfolio in terms of the following criteria:

a. Preference for “ minimal volatility”

b. Equity diversification

c. Asset allocation ( including cash flow needs)

Semester Papers
Calculate your paper price
Pages (550 words)
Approximate price: -

Why Work with Us

Top Quality and Well-Researched Papers

We always make sure that writers follow all your instructions precisely. You can choose your academic level: high school, college/university or professional, and we will assign a writer who has a respective degree.

Professional and Experienced Academic Writers

We have a team of professional writers with experience in academic and business writing. Many are native speakers and able to perform any task for which you need help.

Free Unlimited Revisions

If you think we missed something, send your order for a free revision. You have 10 days to submit the order for review after you have received the final document. You can do this yourself after logging into your personal account or by contacting our support.

Prompt Delivery and 100% Money-Back-Guarantee

All papers are always delivered on time. In case we need more time to master your paper, we may contact you regarding the deadline extension. In case you cannot provide us with more time, a 100% refund is guaranteed.

Original & Confidential

We use several writing tools checks to ensure that all documents you receive are free from plagiarism. Our editors carefully review all quotations in the text. We also promise maximum confidentiality in all of our services.

24/7 Customer Support

Our support agents are available 24 hours a day 7 days a week and committed to providing you with the best customer experience. Get in touch whenever you need any assistance.

Try it now!

Calculate the price of your order

Total price:

How it works?

Follow these simple steps to get your paper done

Place your order

Fill in the order form and provide all details of your assignment.

Proceed with the payment

Choose the payment system that suits you most.

Receive the final file

Once your paper is ready, we will email it to you.

Our Services

No need to work on your paper at night. Sleep tight, we will cover your back. We offer all kinds of writing services.


Essay Writing Service

No matter what kind of academic paper you need and how urgent you need it, you are welcome to choose your academic level and the type of your paper at an affordable price. We take care of all your paper needs and give a 24/7 customer care support system.


Admission Essays & Business Writing Help

An admission essay is an essay or other written statement by a candidate, often a potential student enrolling in a college, university, or graduate school. You can be rest assurred that through our service we will write the best admission essay for you.


Editing Support

Our academic writers and editors make the necessary changes to your paper so that it is polished. We also format your document by correctly quoting the sources and creating reference lists in the formats APA, Harvard, MLA, Chicago / Turabian.


Revision Support

If you think your paper could be improved, you can request a review. In this case, your paper will be checked by the writer or assigned to an editor. You can use this option as many times as you see fit. This is free because we want you to be completely satisfied with the service offered.