******************************************I NEED A RESPONSE TO THIS DISCUSSION ANSWER POSTED BY CLASSMATE*****************************************

Determine two or three (2-3)methods of using stocks and options to create a risk-free hedge portfolio. Support your answer with examples of these methods being used to create a risk-free portfolio.

There is risk associated with every portfolio but owners can use certain stocks and options to reduce or create a risk-free hedge portfolio. For instance, the call option, the put option, and option buying are some of the options used.

1) The Call Option works by creating a portfolio by writing a call and purchasing a share of stock. For example, if the strike price of a stock is $50, current stock price is $60, the up factor is 2.00, and down factor 0.75. If the stock price goes up, then the ending price of the stock will be $72. However, the owner will owe $10 on the option ($60 - $50). If the stock price goes down, then the portfolio stock price will be worth only $45 ($60 * .75). The amount owed in this scenario will fall to zero leaving the portfolio's net payoff at $45 [Cd =($45 - $50) = 0]. Since the portfolios end of price range is smaller than if the stock was owned outright, writing a call option would reduce the portfolio's price risk.

2) Option Buying:Buying an option outright may not seem to be a measure to offset risk, per se, but it can be when paired with the situation where a position contains a large on-paper profit. Instead of keeping the entire position invested, it can bedivested, using a small portion of the proceeds to purchaseput options. This strategy will act as ahedge against the potential downside riskof your originallyinvested capital. This strategy can also be viewed as offsetting opportunity risk

• * From the scenario, create a unique hypothetical weighted average cost of capital (WACC) and rate of return. Recommend whether or not the company should expand, and defend your position.

WACC = Wdrd(1-T)+Wstdrstd(1-T)+Wpsrps+Wsrs

To calculateTFC WACC using the above equation:

Wd= .40 rd = .80 T = .40 Wstd=0 rstd =0 Wps= 0 rps = 0 Ws= .60 rs = .15

TFC = .40 * .80(1 - .40) + 0(1 - .40) + 0 + .60 * .15 = 10.92%

In order to expand, TFC'sWACC must be at least 10.92%. So, using a hypothetical situation where TFC'stax rate increased to 43%, equity was 55%, debt 45%, and all other things remained equal, TFC should expand since the new WACC is higher than 10.92%

.45 * .80(1 - 43) + 0(1 - .43) + 0 + .55 * .15 = 28.77% Reference:http://www.investopedia.com/articles/trading/09/offset-risk-options-futures-hedge-funds.asp