The price of Ervin Corp. stock will be either $52 or $83 at the end of the year.

Question

The price of Ervin Corp. stock will be either $52 or $83 at the end of the year. Call options are available with one year to expiration. T-bills currently yield 5 percent.

Suppose the current price of the stock is $60. What is the value of the call option if the exercise price is $50 per share? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Suppose the exercise price is $80 and the stock price is $60. What is the value of the call option now? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Suppose the current price of the stock is $60. What is the value of the call option if the exercise price is $50 per share? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Explanation / Answer

a) Delta = (83 - 52) - (33 - 2) = 1

S0 = C0 + E/(1+Rf)

60 = C0 + 50/1.05

C0 = 12.38

b) Delta = (83 - 52) / (3 - 0) = 10.33

S0 = Delta * C0 + E/(1+Rf)

60 = 10.33*C0 + 80/1.05

C0 = (-) 1.57

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