112 1) Please mark the following as either True (T) or False (F) (2 points each) Black-Scholes option pricing model assumes that stock prices has normal distribution in multiple step bir on iskless portfolio for each step is different and rebalancing is required to keep the portfolio riskless It is always optimal to exercise American call options on non-dividend paying stocks as American T al tree's th delta ( ) changes during the life of the option Hence, the options gives the holder right to exercise anytime during the life option Options are more valuable Gie have high price) when the underlying (G e, stock) has high volatility ll else equal, a European option is always worth as much as an American option An American option is worth at least as much as its intrinsic value 2) There are six variables that affect the price of a stock option. The following states the effect on the price of a stock option while increasing one variable and keeping all others fixed Which of the statements is NOT correct? (3 points) a) If the stock price increases, the price of European call option increases b) If the stock price increases, the price of European put option decreases If the strike price is higher, the price of European call option is higher d) If the strike price is higher, the price of European call option is lower 3) Consider the Black-Scholes formula for a European call option. Which term can be interpreted as the probability that call option will be exercised at the expiration in a risk neutral world? (3 points) a) d b)4, d) N(d,) 4) The following figures show the pay-off structure of European stock option contracts depending on possible stock prices at the expiration date. Circle the correct position (long or short) and type of the option (call or put) (6 points Lon 7Short Call K S b) Long / Put Sr