The price of a stock is $40. The price of a 1-year European put option on the stock with a strike price of $30 is quoted as $7 and the price of a 1-year European call option on the stock with a strike price of $50 is quoted as $5. Suppose that an investor buys 100 shares, shorts 100 call options, and buys 100 put options. Draw a diagram illustrating how the investor's profit or loss varies with the stock prior over the next year. How does your answer change if the investor buys 100 shares, shorts 200 call options, and buys 200 put options? 3.24.

"If a company does not do better than its competitors but the stock market goes up, executives do very well from their stock options. This makes no sense." Discuss this viewpoint. Can you think of alternatives to the usual executive stock option plan that take the viewpoint into account 3.25.

Use DerivaGem to calculate the value of an American pet option on a non-dividend- paying stock when the stock price is $30, the strike price is $32, the risk-free rate is 5%, the volatility is 30%, and the time to maturity is 1.5 years. (Choose binomial American for the "option type" and 50 time steps.)

(a) What is the option's intrinsic value

(b) What is the option's time value?

(c) What would a time value of zero indicate? What is the value of an option with zero time value?

(d) Using a trial and error approach, calculate how low the stock price would have to be for the time value of the option to be zero.