Question
1. Explain why the difference between put and call prices depends on whether or not the un-derlying security pays a dividend during the life of
1. Explain why the difference between put and call prices depends on whether or not the un-derlying security pays a dividend during the life of the contracts.
2. When comparing futures and forward contracts, it has been said that futures are more liq-uid but forwards are more flexible. Explain what this statement means and comment on how differences in contract liquidity and design flexibility might influence an investors preference in choosing one instrument over the other.
3. Compare and contrast the gain and loss potential for investors holding the following posi-tions: long forward, short forward, long call, short call, long put, and short put. Indicate what the terms symmetric and asymmetric mean in this context.
4. As the manager of a medium-sized hedge fund, the recent fluctuations in the capital mar-kets have attracted your attention. In particular, the prices of stocks and bonds have now dropped to what you consider to be unprecedentedly attractive levels. Although you expect the prices of these investments to rise in the near future, your hedge fund is currently cash-constrained due to an unforeseen redemption wave; fire-selling the best holdings in your portfolio is not a practical way to generate investable funds. Further, the next round of incoming cash flows from new investor subscriptions and from the existing in-vestments are not expected to occur for approximately three months.
a. Briefly explain the details of two investment strategies that employ derivative instru-ments that would allow you to take advantage of the anticipated market rally. b. What are the benefits and potential risk factors for undertaking these derivative strategies in lieu of direct cash-oriented investments?
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