I. Assume that a financial institution (FI) has purchased 3,500 shares of AB and 7,500 shares of CD. The shares AB current bid and offer are 48.5 and 50.1 respectively while the shares CD current bid and offer are 101.1 and 101.5 respectively. Suppose further that the bidoffer spreads are normally distributed with a mean and a standard deviation of 1% for AB and with a mean of 3% and a standard deviation of 4% for CD. a) Which of the two shares (AB and CD) has the higher cost in terms of execution? Explain [5 marks] b) Calculate the cost of liquidation in a normal market [20 marks] c) Calculate the cost of liquidation in a stressed market at a 95% confidence level. Using your answers to (b), what do you observe? [20 marks] II. Consider a European call option on a non-dividend-paying stock. The following table shows the value (in ), the delta (), the gamma () and the theta () for a long position in one option: Version 1 Page 3 of 4 EC7097 All Candidates Long position in one option Short position in 10,000 options Value () 2.4 Delta 0.52 Gamma 0.06 Theta (per day) 0.01 a) Using the numbers in the table, if there is an increase of 0.5 in the stock price, explain how the delta and the gamma for a long position in one option can be interpreted [10 marks] b) Using the numbers in the table, explain how the theta for a long position in one option can be interpreted [5 marks] c) Calculate the value (in ), the delta (), the gamma () and the theta () for a short position in 10,000 options [20 marks] d) Using your answers to (c), if there is an increase of 0.5 in the stock price, explain how the delta and the gamma for a short position in 10,000 options can be interpreted [10 marks] e) Explain how the theta for a short position in 10,000 options can be interpreted [10 marks]