Maverick Manufacturing, Inc., must purchase gold in three months for use in its operations. Mavericks management has estimated that if the price of gold were to rise above $875 per ounce, the firm would go bankrupt. The current price of gold is $815 per ounce. The firms chief financial officer believes that the price of gold will either rise to $975 per ounce or fall to $740 per ounce over the next three months. Management wishes to eliminate any risk of the firm going bankrupt. Maverick can borrow and lend at the risk-free effective annual rate of 6.50 percent.

a. Should the company buy a call option or a put option on gold? To avoid bankruptcy and to minimize the cost of hedging, what strike price and time to expiration would the company like this option to have?

b. How much should such an option sell for in the open market?