A stock is currently trading at a market price of $60 per share. During the next
ID: 2706613 • Letter: A
Question
A stock is currently trading at a market price of $60 per share. During the next 2 years the return on the stock will have a yearly standard deviation of 45%. The risk-free rate of interest is 3% per year compounded continously. An American call option on the company having a strike price of $57.50 and 18 months to expiration has a hedge ratio of .6681. The risk adjusted probability that the 18 month $57.50 call option will finish in the money is .4535. Assuming the company is NOT expected to pay a DIVIDEND during the next two years, determine
a. the value of an American Call Option on the company with 18 months to expiration and a $57.50 strike price.
b. the risk-adjusted probability that a European put option having 18 months to expiration and a strike price of $57.50 will finish in the money.
c. the value of an European put option on the company having 18 months to expiration and a strike price of $57.50.
Explanation / Answer
b. the risk-adjusted probability that a European put option having 18 months to expiration and a strike price of $57.50 will finish in the money.
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