Question 4

(a) Demonstrate the risk-increasing and risk-reducing options strategies that are available to scale up or reduce overall portfolio risk. (5 marks)

(b) Sherzod, a manager received 10,000 shares of company stock as part of his compensation package. The stock currently sells at $40 a share. Sherzod would like to defer selling the stock until the next year for his new house down payment in January. However, Sherzod is worried about the price risk involved in keeping his shares till next year January. He considers three investment strategies:

i. Strategy A is to write January call options on the CSI shares with strike price $45. These calls are currently selling for $3 each.

ii. Strategy B is to buy January put options on CSI with strike price $35. These options also sell for $3 each.

iii. Strategy C is to establish a zero-cost collar by writing the January calls and buying the January puts.

Evaluate each of these strategies with respect to Sherzods investment goals. What are the advantages and disadvantages of each? Which would you recommend? (20 marks)