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Consider an American put option on XAL stock with a strike price of $55 and one year

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Consider an American put option on XAL stock with a strike price of $55 and one year to expiration. Assume XAL pays no dividends, XAL is currently trading for $10 per share, and the one-year interest rate is 10%. If it is optimal to exercise this option early:
a. What is the price of a one-year American put option on XAL stock with a strike price of $60 per share?
b. What is the maximum price of a one-year American call option on XAL stock with a strike price of $55 per share?
Strike Price
In finance, the strike price of an option is the fixed price at which the owner of the option can buy, or sell, the underlying security or commodity.
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a It is optimal to exercise early put...View the full answer


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ANU NAIR
My Name is Anu Nair P.I have been working as an Assistant Professor in the Department of Mechanical Engineering at Mar Baselios Christian College of Engineering & Technology, Kuttikkanam, Peermade since 2019. I have over 6 years of Teaching as well as Industrial Experience. I obtained a bachelor’s degree in Mechanical Engineering from Mahatma Gandhi, Kottayam, and a master’s degree from Anna University, Chennai.I have six Years experience in teaching. I have published over Thirty technical papers in national and international journals and conferences. I am also a Fellow of the Institution of Engineers (India), I have passed NPTEL Online Certification Examinations in Laws of Thermodynamics and Refrigeration and Air Conditioning with Elite Score. I have a life member of the Indian Society for Technical Education, India as well as ISHMT (Indian Society for Heat and Mass Transfer). LinkedIn profile- https://www.linkedin.com/in/anu-nair-198918b6
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A put option is a financial contract that gives the owner the right, but not the obligation, to sell an underlying asset, such as a stock or a commodity, at a predetermined price, known as the strike price, on or before a specific date, known as the expiration date. Put options are used by investors as a form of insurance against a decline in the value of the underlying asset. If an investor expects the value of an asset to fall in the future, they can purchase a put option on that asset. If the value of the asset does fall, the put option will increase in value, allowing the investor to sell the asset at the higher strike price. For example, if an investor owns 100 shares of a stock that is currently trading at $50 per share, they may purchase a put option with a strike price of $45 and an expiration date three months in the future. If the stock price falls to $40 before the expiration date, the investor can exercise the put option and sell their shares for $45 each, even though the market price is only $40. This would allow the investor to limit their losses. It\'s important to note that purchasing a put option involves paying a premium to the seller of the option, and the investor can lose the entire premium if the price of the underlying asset does not decline as expected. Put options are just one type of financial derivative and should only be used by experienced investors who understand the risks involved.

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