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Options, Futures, and Other Derivatives

John C. Hull

Chapter 14

Options on Stock Indices, Currencies, and Futures - all with Video Answers

Educators


Chapter Questions

06:35

Problem 1

A portfolio is currently worth $\$ 10$ million and has a beta of $1.0 .$ The $\operatorname{SeP} 100$ is currently standing at $500 .$ Explain how a put option on the S\&P 100 with a strike of 480 can be used to provide portfolio insurance.

Robin Corrigan
Robin Corrigan
Numerade Educator
01:01

Problem 2

"Once we know how to value options on a stock paying a dividend yield, we know how to value options on stock indices, currencies, and futures." Explain this statement.

Nick Johnson
Nick Johnson
Numerade Educator
02:38

Problem 3

A stock index is currently 300 , the dividend yield on the index is $3 \%$ per annum, and the risk-free interest rate is $8 \%$ per annum. What is a lower bound for the price of a 6 -month European call option on the index when the strike price is $290 ?$

Emily Frampton
Emily Frampton
Numerade Educator
04:24

Problem 4

A currency is currently worth $\$ 0.80$. Over each of the next 2 months it is expected to increase or decrease in value by $2 \%$. The domestic and foreign risk-free interest rates are $6 \%$ and $8 \%$, respectively. What is the value of a 2 -month European call option with a strike price of $\$ 0.80 ?$

Jonathan Tapiwa
Jonathan Tapiwa
Numerade Educator
View

Problem 5

Explain the difference between a call option on yen and a call option on yen futures.

Rashmi Sinha
Rashmi Sinha
Numerade Educator
04:10

Problem 6

Explain how currency options can be used for hedging.

Pragya Ahuja
Pragya Ahuja
Numerade Educator
01:12

Problem 7

Calculate the value of a 3 -month at-the-money European call option on a stock index when the index is at 250 , the risk-free interest rate is $10 \%$ per annum, the volatility of the index is $18 \%$ per annum, and the dividend yield on the index is $3 \%$ per annum.

Subhadeepta Sahoo
Subhadeepta Sahoo
Numerade Educator
10:33

Problem 8

Consider an American call futures option where the futures contract and the option contract expire at the same time. Under what circumstances is the futures option worth more than the corresponding American option on the underlying asset?

Md.Daniyal Arshad
Md.Daniyal Arshad
Numerade Educator
01:39

Problem 9

Calculate the value of an 8 -month European put option on a currency with a strike price of $0.50 .$ The current exchange rate is $0.52,$ the volatility of the exchange rate is $12 \%,$ the domestic risk-free interest rate is $4 \%$ per annum, and the foreign risk-free interest rate is $8 \%$ per annum.

Alejandro Ruiz
Alejandro Ruiz
Numerade Educator
00:47

Problem 10

Why are options on bond futures more actively traded than options on bonds?

Amrita Bhasin
Amrita Bhasin
Numerade Educator
01:04

Problem 11

"A futures price is like a stock paying a dividend yield." What is the dividend yield?

Bobby Barnes
Bobby Barnes
University of North Texas
00:50

Problem 12

A futures price is currently $50 .$ At the end of 6 months it will be either 56 or $46 .$ The risk free interest rate is $6 \%$ per annum. What is the value of a 6 -month European call option with a strike price of $50 ?$

Subhadeepta Sahoo
Subhadeepta Sahoo
Numerade Educator
01:01

Problem 13

Calculate the value of a 5 -month European put futures option when the futures price is $\$ 19,$ the strike price is $\$ 20,$ the risk-free interest rate is $12 \%$ per annum, and the volatility of the futures price is $20 \%$ per annum.

Nick Johnson
Nick Johnson
Numerade Educator
04:02

Problem 14

A total return index tracks the return, including dividends, on a certain portfolio. Explain how you would value (a) forward contracts and (b) European options on the index.

Majid Borumand
Majid Borumand
Numerade Educator
01:18

Problem 15

The S\&P 100 index currently stands at 696 and has a volatility of $30 \%$ per annum. The risk-free rate of interest is $7 \%$ per annum and the index provides a dividend yield of $4 \%$ per annum. Calculate the value of a 3 -month European put with strike price 700 .

Gregory Higby
Gregory Higby
Numerade Educator
01:08

Problem 16

What is the put-call parity relationship for European currency options?

Kaylee Mcclellan
Kaylee Mcclellan
Numerade Educator
01:27

Problem 17

A foreign currency is currently worth $\$ 1.50 .$ The domestic and foreign risk-free interest rates are $5 \%$ and $9 \%,$ respectively. Calculate a lower bound for the value of a 6 -month call option on the currency with a strike price of $\$ 1.40$ if it is (a) European and
(b) American

Vikash Ranjan
Vikash Ranjan
Numerade Educator
02:17

Problem 18

Consider a stock index currently standing at $250 .$ The dividend yield on the index is $4 \%$ per annum and the risk-free rate is $6 \%$ per annum. A 3 -month European call option on the index with a strike price of 245 is currently worth $\$ 10 .$ What is the value of a 3-month European put option on the index with a strike price of $245 ?$

Akash M
Akash M
Numerade Educator
01:06

Problem 19

Would you expect the volatility of a stock index to be greater or less than the volatility of a typical stock? Explain your answer.

Kari Hasz
Kari Hasz
Numerade Educator
02:10

Problem 20

Does the cost of portfolio insurance increase or decrease as the beta of the portfolio increases? Explain your answer.

Tristan Wille
Tristan Wille
Numerade Educator
01:08

Problem 21

Suppose that a portfolio is worth $\$ 60$ million and the S\&P 500 is at $1200 .$ If the value of the portfolio mirrors the value of the index, what options should be purchased to provide protection against the value of the portfolio falling below $\$ 54$ million in 1 year's time?

Kratika Bhadauria
Kratika Bhadauria
Numerade Educator
01:08

Problem 22

Consider again the situation in Problem $14.21 .$ Suppose that the portfolio has a beta of $2.0,$ that the risk-free interest rate is $5 \%$ per annum, and that the dividend yield on both the portfolio and the index is $3 \%$ per annum. What options should be purchased to provide protection against the value of the portfolio falling below $\$ 54$ million in $l$ year's time?

Kratika Bhadauria
Kratika Bhadauria
Numerade Educator
00:46

Problem 23

Suppose you buy a put option contract on October gold futures with a strike price of $\$ 400$ per ounce. Each contract is for the delivery of 100 ounces. What happens if you exercise when the October futures price is $\$ 377$ and the most recent settlement price is $\$ 380 ?$

Heather Zimmers
Heather Zimmers
Numerade Educator
01:48

Problem 24

Suppose you sell a call option contract on April live-cattle futures with a strike price of 70 cents per pound. Each contract is for the delivery of 40,000 pounds. What happens if the contract is exercised when the futures price is 76 cents and the most recent settlement price is 75 cents?

Daniel Cisneros
Daniel Cisneros
Numerade Educator
01:33

Problem 25

Consider a 2 -month call futures option with a strike price of 40 when the risk-free interest rate is $10 \%$ per annum. The current futures price is $47 .$ What is a lower bound for the value of the futures option if it is (a) European and (b) American?

Carson Merrill
Carson Merrill
Numerade Educator
01:33

Problem 26

Consider a 4 -month put futures option with a strike price of 50 when the risk-free interest rate is $10 \%$ per annum. The current futures price is $47 .$ What is a lower bound for the value of the futures option if it is (a) European and (b) American?

Carson Merrill
Carson Merrill
Numerade Educator
01:44

Problem 27

A futures price is currently $60 .$ It is known that over each of the next two 3 -month periods it will either rise by $10 \%$ or fall by $10 \%$. The risk-free interest rate is $8 \%$ per annum. What is the value of a 6 -month European call option on the futures with a strike price of $60 ?$ If the call were American, would it ever be worth exercising it early?

Achintya Suden
Achintya Suden
Numerade Educator
10:33

Problem 28

In Problem 14.27 , what is the value of a 6 -month European put option on futures with a strike price of $60 ?$ If the put were American, would it ever be worth exercising it early? Verify that the call prices calculated in Problem 14.27 and the put prices calculated here satisfy put-call parity relationships.

Md.Daniyal Arshad
Md.Daniyal Arshad
Numerade Educator
01:46

Problem 29

A futures price is currently $25,$ its volatility is $30 \%$ per annum, and the risk-free interest rate is $10 \%$ per annum. What is the value of a 9 -month European call on the futures with a strike price of $26 ?$

AG
Ankit Gupta
Numerade Educator
01:01

Problem 30

A futures price is currently $70,$ its volatility is $20 \%$ per annum, and the risk-free interest rate is $6 \%$ per annum. What is the value of a 5 -month European put on the futures with a strike price of $65 ?$

Subhadeepta Sahoo
Subhadeepta Sahoo
Numerade Educator
02:36

Problem 31

Suppose that a futures price is currently $35 .$ A European call option and a European put option on the futures with a strike price of 34 are both priced at 2 in the market. The risk-free interest rate is $10 \%$ per annum. Identify an arbitrage opportunity. Both options have 1 year to maturity.

Andrew Davis
Andrew Davis
Numerade Educator
04:10

Problem 32

"The price of an at-the-money European call futures option always equals the price of a similar at-the-money European put futures option." Explain why this statement is true.

Narayan Hari
Narayan Hari
Numerade Educator
01:44

Problem 33

Suppose that a futures price is currently $30 .$ The risk-free interest rate is $5 \%$ per annum. A 3 -month American call futures option with a strike price of 28 is worth $4 .$ Calculate bounds for the price of a 3 -month American put futures option with a strike price of 28.

Achintya Suden
Achintya Suden
Numerade Educator
00:22

Problem 34

Can an option on the yen/euro exchange rate be created from two options, one on the dollar/euro exchange rate, and the other on the dollar-yen exchange rate? Explain your answer.

Jennifer Stoner
Jennifer Stoner
Numerade Educator
02:09

Problem 35

A corporation knows that in 3 months it will have $\$ 5$ million to invest for 90 days at LIBOR minus 50 basis points and wishes to ensure that the rate obtained will be at least $6.5 \% .$ What position in exchange-traded interest rate options should it take?

Priyanka Sadarangani
Priyanka Sadarangani
Numerade Educator
04:06

Problem 36

Prove the results in equations $(14.1),(14.2),$ and (14.3) using the following portfolios:

Charles Carter
Charles Carter
Numerade Educator
06:21

Problem 37

Show that, if $C$ is the price of an American call with strike price $K$ and maturity $T$ on a stock providing a dividend yield of $q,$ and $P$ is the price of an American put on the same stock with the same strike price and exercise date, then
$$S_{0} e^{-q T}-K \leqslant C-P \leqslant S_{0}-K e^{-n}$$
where $\delta_{0}$ is the stock price, $r$ is the risk-free interest rate, and $r>0$. (Hint: To obtain the first half of the inequality, consider possible values of:
To obtain the second half of the inequality, consider possible values of:

James Kiss
James Kiss
Numerade Educator
10:33

Problem 38

Show that, if $C$ is the price of an American call option on a futures contract when the strike price is $K$ and the maturity is $T$, and $P$ is the price of an American put on the same futures contract with the same strike price and exercise date, then $$F_{0} e^{-r T}-K \leqslant C-P \leqslant F_{0}-K e^{-r T}$$ where $F_{0}$ is the futures price and $r$ is the risk-free rate. Assume that $r>0$ and that there is no difference between forward and futures contracts. (Hint: Use an analogous approach to that indicated for Problem $14.37 .$

Md.Daniyal Arshad
Md.Daniyal Arshad
Numerade Educator
00:58

Problem 39

If the price of currency A expressed in terms of the price of currency B follows the process
\[
d S=\left(r_{\mathrm{B}}-r_{\mathrm{A}}\right) S d t+\sigma S d z
\]
where $r_{\mathrm{A}}$ is the risk-free interest rate in currency $\mathrm{A}$ and $r_{\mathrm{B}}$ is the risk-free interest rate in currency B. What is the process followed by the price of currency B expressed in terms of currency A?

Majid Borumand
Majid Borumand
Numerade Educator
04:32

Problem 40

Use the DerivaGem software to calculate implied volatilities for the March 104 call and the March 104 put on the Dow Jones Industrial Average (DJX) in Table 14.1 . The value of the DJX on February $4,2004,$ was 104.71 . Assume that the risk-free rate was $1.2 \%$ and that the dividend yield was $3.5 \%$. The options expire on March 20,2004 . Are the quotes for the two options consistent with put-call parity?

Mauricio Araiza Canizales
Mauricio Araiza Canizales
Numerade Educator
02:46

Problem 41

A stock index currently stands at 300 . It is expected to increase or decrease by $10 \%$ over each of the next two time periods of 3 months. The risk-free interest rate is $8 \%$ and the dividend yield on the index is $3 \%$. What is the value of a 6 -month put option on the index with a strike price of 300 if it is (a) European and (b) American?

Varsha Aggarwal
Varsha Aggarwal
Numerade Educator
01:55

Problem 42

Suppose that the spot price of the Canadian dollar is US $\$ 0.75$ and that the Canadian dollar/US dollar exchange rate has a volatility of $4 \%$ per annum. The risk-free rates of interest in Canada and the United States are $9 \%$ and $7 \%$ per annum, respectively. Calculate the value of a European call option to buy one Canadian dollar for US $\$ 0.75$ in 9 months. Use put-call parity to calculate the price of a European put option to sell one Canadian dollar for US $\$ 0.75$ in 9 months. What is the price of a call option to buy US $\$ 0.75$ with one Canadian dollar in 9 months?

James Kiss
James Kiss
Numerade Educator
01:34

Problem 43

A mutual fund announces that the salaries of its fund managers will depend on the performance of the fund. If the fund loses money, the salaries will be zero. If the fund makes a profit, the salaries will be proportional to the profit. Describe the salary of a fund manager as an option. How is a fund manager motivated to behave with this type of remuneration package?

Achintya Suden
Achintya Suden
Numerade Educator
04:14

Problem 44

A futures price is currently $40 .$ It is known that at the end of 3 months the price will be either 35 or $45 .$ What is the value of a 3 -month European call option on the futures with a strike price of 42 if the risk-free interest rate is $7 \%$ per annum?

Narayan Hari
Narayan Hari
Numerade Educator
01:12

Problem 45

Calculate the implied volatility of soybean futures prices from the following information concerning a European put on soybean futures:

Carson Merrill
Carson Merrill
Numerade Educator
03:43

Problem 46

Use the DerivaGem software to calculate implied volatilities for the July options on corn futures in Table $14.4 .$ Assume the futures prices in Table 2.2 apply and that the risk-free rate is $1.1 \%$ per annum. Treat the options as American and use 100 time steps. The options mature on June 19,2004 . Can you draw any conclusions from the pattern of implied volatilities you obtain?

Jacquelyn Trost
Jacquelyn Trost
Numerade Educator