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Can you please help me with my financial economics homework? ECN 134 Winter 2016 Homework #3 Due by Lecture (11:00 AM) on Friday March 11

Can you please help me with my financial economics homework?

image text in transcribed ECN 134 Winter 2016 Homework #3 Due by Lecture (11:00 AM) on Friday March 11 Assignment must be uploaded to SmartSite as a pdf file or MS Word It is ok to scan a hand-written document, but scan to pdf only (no jpeg or camera photo, etc.) Also, scan must be a single file (no multiple documents or files). 1) Your friend has come to you with an investment idea. He notices that for SH Corp. there are put options with a strike price of $18 and call options with a strike price of $22. The current price of SH Corp common stock is currently $20 per share. a) Your friend believes the price of SH Corp stock is going to remain $20 per share until the expiration of these options. Your friend wants you to buy a portfolio with one put option and one call option (where each option contract is for a single share of stock) because he believes the price of SH Corp will remain at $20 per share through the expiration of the contract. Briefly explain whether buying this portfolio is a good idea or not. b) Assume that the premium (fee) for each option contract (call or put) is $1. Draw an accurate net payoff diagram for the portfolio mentioned in part a). c) If you believe the volatility of SH. Corp stock is relatively low, would you rather have the long position on the portfolio in part a) or the short position on the portfolio in part a)? Briefly explain. 2) Upside Inc. currently trades for $100 per share. It is expected with equal probability to either rise in price to $110 per share in one year or $150 per share in one year. Assume the binomial model for option contracts. a) Assume you will build a portfolio consisting of one share of Upside Inc. and call options on Upside Inc. with a strike price of $100 (for one share of stock). What is the hedge ratio for this portfolio? b) What is the price of a call option for this portfolio assuming a 10% risk-free rate? c) Using put-call parity, what must the price of a put option with a strike price of $100 be today assuming a 10% risk-free rate? 3) Small Inc. is considering the following project with the following annual cash flows. Year Cash Flow a) b) c) d) e) 0 -$10 1 $9 2 $2 3 $3 4 -$5 What is the payback period for this project? What is the discounted payback period for this project if the discount rate is 20%? If Small Inc. has a cutoff period of 2 years, briefly explain if they would accept this project under the payback method? What about the discounted payback method? What is the net present value of this project if the discount rate is still 20%? Briefly explain if they should accept this project based on NPV analysis. Suppose there are 10 shares outstanding of Small Inc. selling for $10 per share. If they undertake this project, what would you calculate their share price should be assuming Small Inc. is a common-equity only company? Page 1 of 1

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