QUESTION 15

(a) Assume an options trader sells an XYZ call option, what position must she take in the stock to make her portfolio delta-neutral?

(b) What position must she take in the stock and put options to make her portfolio delta-neutral and gamma-neutral?

1. Which of the following is a reason for hedging? A. hedging can increase expected cash flow B. hedging allows a firm to reduce the probability of bankruptcy or financial distress C. hedging can reduce the probability of raising funds externally D. hedging allows a firm to reduce its debt capacity E. managers are risk-adverse due to poor diversification 2. Suppose you long a three-month forward contract at $35. One month later, new forward contracts with similar terms are trading for $30. The continuously compounded risk-free rate is 10 percent p.a. What is the value of your forward contract? A. B. C. D. E. 3. Suppose you buy a one-year forward contract at $65. At expiration, the spot price is $73. The risk-free rate is 10 percent p.a. What is the value of the contract at expiration? A. B. C. D. E. 4. -$7.27 -$8.00 $0.00 $7.27 none of the above A company due to pay a certain amount of a foreign currency in the future decides to hedge with futures contracts. Which of the following best describes the advantage of hedging? A. B. C. D. E. 5. $4.96 $5.00 $4.92 $4.55 none of the above It leads to a better exchange rate being paid It leads to a more predictable exchange rate being paid It caps the exchange rate that will be paid It provides a floor for the exchange rate that will be paid None of the above Which of the following is true? A. B. C. D. The convenience yield is always positive or zero The convenience yield is always negative for an investment asset The convenience yield is always positive for a consumption asset The convenience yield measures the average return earned by holding futures contracts E. None of the above 6. Find the upcoming interest payments in a currency swap in which party A pays U.S. dollars at a fixed rate of 5 percent p.a. on a notional amount of $50 million and party B pays Swiss francs at a fixed rate of 4 percent p.a. on a notional amount of SF35 million. Payments are annual under the assumption of 360 days in a year, and there is no netting. A. B. C. D. E. 7. party A pays $2,500,000, and party B pays SF1,400,000 party A pays SF1,400,000, and party B pays $2,500,000 party A pays SF1,750,000, and party B pays SF1,400,000 party A pays $2,500,000, and party B pays $2,000,000 party A pays $50 million, and party B pays SF35 million A company enters into an interest rate swap where it is paying fixed and receiving LIBOR. When interest rates increase, which of the following is true? A. B. C. D. The value of the swap to the company decreases The value of the swap to the company increases The value of the swap can either increase or decrease The value of the swap does not change providing the swap rate remains the same E. None of the above 8. What should a trader do when the one-year forward price of an investment asset is too low? Assume that the asset provides no income. A. The trader should borrow the price of the asset, buy one unit of the asset and enter into a short forward contract to sell the asset in one year B. The trader should borrow the price of the asset, buy one unit of the asset and enter into a long forward contract to buy the asset in one year C. The trader should short the asset, invest the proceeds of the short sale at the risk-free rate, enter into a short forward contract to sell the asset in one year D. The trader should short the asset, invest the proceeds of the short sale at the risk-free rate, enter into a long forward contract to buy the asset in one year E. Do nothing 9. Which of the following is equivalent to a synthetic call? A. B. C. D. E. Long stock, short put, borrow the present value of the strike price Long put, long stock, borrow the present value of the strike price Long put, long stock, lend the present value of the strike price Long stock, short put, lend the present value of the strike price none of the above 10. Which of the following investors may be obligated to buy stock? A. B. C. D. E. covered call writer call buyer put writer protective put buyer none of the above 11. The effect of volatility on a call/put's price is A. B. C. D. E. decreased price due to decreased possible losses nominal volatility will not noticeably effect a call/put's price increased price due to increased possible gains decreased price due to increased possible losses none of the above 12. Which of the following is true? A. B. C. D. E. A long call is the same as a short put A short call is the same as a long put A call on a stock plus a stock the same as a put All of the above None of the above 13. June 45 options are selling at $8.41 for calls and $2.09 for puts. Consider a long strip constructed using those options. What is the profit if the stock price at expiration is at $60? 14. A stock price is currently $40. It is known that at the end of three months it will be either $45 or $35. The risk-free rate of interest with continuously compounding is 8% per annum. Calculate the value of a three-month European put option on the stock with an exercise price of $40. What is the value of the put option? 15. The following options are available on XYZ stock: Type Call Put X $30 $30 T 1.00 1.25 Delta 0.703 -0.292 Gamma 0.036 0.032 The stock is currently priced at $32 and has a volatility () of 30% p.a. The continuously compounded risk-free rate is 5% p.a. The Black-Scholes option pricing model values the call at $5.60 and the put at $2.14. (a) Assume an options trader sells an XYZ call option, what position must she take in the stock to make her portfolio delta-neutral? (b) What position must she take in the stock and put options to make her portfolio delta-neutral and gamma-neutral