Answer: a) The CEO will choose to use all resources. b) The CEO will still choose to use all resources. c) The CEO would not want the firm to hedge. d) Shareholders would want the firm to hedge.
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The CEO's decision to use all resources would depend on the specific circumstances and the CEO's strategic goals for the firm. Show more…
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Question 3: The price of an IBM share on December 31, 2007, is $90. The same day Gulf Investment Bank entered into a contract with Goldman Inc. to buy 1000 shares of IBM on July 31, 2008, at the price of $92 per share. Let's suppose that the price of the IBM share is $91.5/share on July 31, 2008. 1. Who will lose on July 31, 2008, and how much? 2. What will be the net position if we consider both long and short positions? 3. What will be the terminal payoff for the long position holder? 4. What will be the terminal payoff for the short position holder? 5. What will be the terminal payoff for long and short positions if one share of IBM is $89/share or $90/share or $91/share or $92/share or $93/share or $94/share. 6. Draw the terminal payoff graph for long and short positions. Question 2: Suppose that the price of gold is AED4100/ounce on October 20, 2012. Rado Watch Company enters into a contract to buy 1000 ounces of gold from Julian Mines at AED4120/ounce on May 30, 2013. Suppose that on May 30, 2013, the price of gold is AED4200/ounce. 1. From the above information, can we say that the contract/agreement is a financial asset? If yes, what will be the value of the contract on (I) October 20, 2012 (II) May 30, 2013. 2. Who will lose on October 20, 2012, and how much? 3. Who will lose on May 30, 2013, and how much? 4. What will be the net position if we consider both long and short positions? 5. What will be the terminal payoff for the long position holder? 6. What will be the terminal payoff for the short position holder? 7. What will be the terminal payoff for long and short positions if the price of gold on May 30, 2013, is AED4140/ounce or AED4160/ounce or AED4180/ounce or AED4100/ounce or AED4080/ounce or AED4060/ounce 8. Draw the terminal payoff graph for long and short positions.
Sri K.
Akash M.
Exercise 2.11 (Put-call parity). Consider a stock that pays no dividend in an N-period binomial model. A European call has a payoff of CN (SN - K) at time N. The price Cn of this call at earlier times is given by the risk-neutral pricing formula (2.4.11): Cn = En [(CN) / (1 + r)^(N-n)], n = 0, 1, ..., N-1. Consider also a put with a payoff of PN (K - SN) at time N, whose price at earlier times is Pn = En [(PN) / (1 + r)^(N-n)], n = 0, 1, ..., N-1. Finally, consider a forward contract to buy one share of stock at time N for K dollars. The price of this contract at time N is FN = SN - K and its price at earlier times is Fn = En [(FN) / (1 + r)^(N-n)], n = 0, 1, ..., N-1. (Note that, unlike the call, the forward contract requires that the stock be purchased at time N for K dollars and has a negative payoff if SN < K). (i) If at time zero you buy a forward contract and a put, and hold them until expiration, explain why the payoff you receive is the same as the payoff of the call; i.e., explain why CN = FN + PN. (ii) Using the risk-neutral pricing formulas given above for Cn, Pn, and Fn and the linearity of conditional expectations, show that Cn = Fn + Pn for every n. (iii) Using the fact that the discounted stock price is a martingale under the risk-neutral measure, show that F0 = S0 - K / (1 + r)^N. (iv) Suppose you begin at time zero with F0, buy one share of stock, borrowing money as necessary to do that, and make no further trades. Show that at time N you have a portfolio valued at FN. (This is called static replication of the forward contract. If you sell the forward contract for F0 at time zero, you can use this static replication to hedge your short position in the forward contract). (v) The forward price of the stock at time zero is defined to be that value of K that causes the forward contract to have price zero at time zero. The forward price in this model is (1 + r)^N S0. Show that, at time zero, the price of a call struck at the forward price is the same as the price of a put struck at the forward price. This fact is called put-call parity. (vi) If we choose K = (1 + r)^N S0, we just saw in (v) that C0 = P0. Do we have Cn = Pn for every n?
Adi S.
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