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Q give answers Consider a two-period small open economy populated by a large number of identical households with preferences described by the utility function lnCT

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Consider a two-period small open economy populated by a large number of identical households with preferences described by the utility function

lnCT 1 + lnCN 1 + lnCT 2 + lnCN 2

where CT 1 and CT 2 denote consumption of tradables in periods 1 and 2, respectively, and CN 1 and CN 2 denote consumption of nontradables in periods

1 and 2. Households are born in period 1 with no debts or assets and are

endowed with L1 = 1 units of labor in period and L2 = 1 units of labor in

period 2. Households oer their labor to rms, for which they get paid the

wage rate w1 in period 1 and w2 in period 2. The wage rate is expressed in

terms of tradable goods. Households can borrow or lend in the international nancial market at the world interest rate r. Let pN 1 and pN 2 denote the

relative price of non tradable goods in terms of tradable goods in periods 1

and 2, respectively.

Firms in the traded sector produce output with the technology QT 1 = aTLT 1 in period 1 and QT 2 = aTLT 2 in period 2, where QT t denotes output in period t = 1,2 and LT t denotes employment in the traded sector in period t = 1,2.

Similarly, production in the nontraded sector in periods 1 and 2 is given by

QN 1 = aNLN 1 and QN 2 = aNLN 2 .

1. Write down the budget constraint of the household in periods 1 and 2.

2. Write down the intertemporal budget constraint of the household.

3. State the household's utility maximization problem.

Explain in detail why budget constraint is W1 = (Ct1+Cn1)*pn1

1. Determine which statement about zero-cost purchased collars is FALSE (A) A zero-width, zero-cost collar can be created by setting both the put and call strike prices at the forward price. (B) There are an infinite number of zero-cost collars. (C) The put option can be at-the-money. (D) The call option can be at-the-money. (E) The strike price on the put option must be at or below the forward price. 2. You are given the following: The current price to buy one share of XYZ stock is 500. The stock does not pay dividends. The continuously compounded risk-free interest rate is 6%. A European call option on one share of XYZ stock with a strike price of K that expires in one year costs 66.59. A European put option on one share of XYZ stock with a strike price of K that expires in one year costs 18.64. Using put-call parity, calculate the strike price, K. (A) 449 (B) 452 (C) 480 (D) 559 (E) 582

3. Happy Jalapenos, LLC has an exclusive contract to supply jalapeno peppers to the organizers of the annual jalapeno eating contest. The contract states that the contest organizers will take delivery of 10,000 jalapenos in one year at the market price. It will cost Happy Jalapenos 1,000 to provide 10,000 jalapenos and today's market price is 0.12 for one jalapeno. The continuously compounded risk-free interest rate is 6%. Happy Jalapenos has decided to hedge as follows: Buy 10,000 0.12-strike put options for 84.30 and sell 10,000 0.14-stike call options for 74.80. Both options are one-year European. Happy Jalapenos believes the market price in one year will be somewhere between 0.10 and 0.15 per jalapeno. Determine which of the following intervals represents the range of possible profit one year from now for Happy Jalapenos. (A) -200 to 100 (B) -110 to 190 (C) -100 to 200 (D) 190 to 390 (E) 200 to 400

5. The PS index has the following characteristics: One share of the PS index currently sells for 1,000. The PS index does not pay dividends. Sam wants to lock in the ability to buy this index in one year for a price of 1,025. He can do this by buying or selling European put and call options with a strike price of 1,025. The annual effective risk-free interest rate is 5%. Determine which of the following gives the hedging strategy that will achieve Sam's objective and also gives the cost today of establishing this position. (A) Buy the put and sell the call, receive 23.81 (B) Buy the put and sell the call, spend 23.81 (C) Buy the put and sell the call, no cost (D) Buy the call and sell the put, receive 23.81 (E) Buy the call and sell the put, spend 23.81 6. The following relates to one share of XYZ stock: The current price is 100. The forward price for delivery in one year is 105. P is the expected price in one year Determine which of the following statements about P is TRUE. (A) P < 100 (B) P = 100 (C) 100 < P < 105 (D) P = 105 (E) P > 105

7. A non-dividend paying stock currently sells for 100. One year from now the stock sells for 110. The continuously compounded risk-free interest rate is 6%. A trader purchases the stock in the following manner: The trader pays 100 today The trader takes possession of the stock in one year Determine which of the following describes this arrangement. (A) Outright purchase (B) Fully leveraged purchase (C) Prepaid forward contract (D) Forward contract (E) This arrangement is not possible due to arbitrage opportunities 8. Joe believes that the volatility of a stock is higher than indicated by market prices for options on that stock. He wants to speculate on that belief by buying or selling at-themoney options. Determine which of the following strategies would achieve Joe's goal. (A) Buy a strangle (B) Buy a straddle (C) Sell a straddle (D) Buy a butterfly spread (E) Sell a butterfly spread

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