Study Questions for Itos Dilemma Case Using the Black Scholes pricing function in Excel, compute an option value for each strike price and maturity date in case Exhibit 2 For simplicity, assume zero dividend yield Also, use Louise Itos volatility estimates, provided in case Exhibit 1 Does the model yield logical estimates with respect to intrinsic value and time to maturity What happens to the option premiums as you change the volatility Can you explain why volatility affects prices in such a manner How do your estimates compare with the actual quoted prices Can you explain the differences Assuming your prices are correct, which options would you buy or sell Are there any problems with the way Ito estimated the volatility numbers Can you think of another way to estimate volatility that might yield estimates closer to the actual quotes Using the Black Scholes pricing function in Excel, calculate how sensitive IBMs March 110 call price is to changes in stock price How much does the call price vary for $0 50 changes in IBM share price when the option is at the money (assume stock price $110), in the money (assume stock price $115), and out of the money (assume stock price $105) What does this sensitivity analysis tell you 0 Exhibit 2 ITO'S DILEMMA n Premium and Market Data for February 20, 2001 Call Premiums Put Premiums Duke Energy 2 27 40 2 27 42 5 2 70 2 27 45 1 25 4 30 5 30 3 90 4 80 2 40 3 30 0 75 2 40 1 30 2 25 0 IBM 108 90 100 12 00 14 10 18 70 108 90 110 4 40 108 90 120 1 10 8 10 11 40 3 60 7 50 2 20 4 30 7 00 5 30 8 1010 50 12 20 13 90 15 60 4 Microsoft 8 13 55 19 50 6 50 55 19 553 00 55 19 60 0 94 10 00 6 88 1 19 2 50 4 00 2 69 4 13 6 00 5 38 6 758 13 2 384 50 9 Tbill rates 0 Expiration date 17 Mar 1 Days to expiration25 4 92 4 85 4 91 21 Apr 21 Jul 4 92 4 85 4 91 17 Mar 21 Apr 21 Jul 151 Stock Prices Returns Option Prices 0 Exhibit 2 ITO'S DILEMMA n Premium and Market Data for February 20, 2001 Call Premiums Put Premiums Duke Energy 2 27 40 2 27 42 5 2 70 2 27 45 1 25 4 30 5 30 3 90 4 80 2 40 3 30 0 75 2 40 1 30 2 25 0 IBM 108 90 100 12 00 14 10 18 70 108 90 110 4 40 108 90 120 1 10 8 10 11 40 3 60 7 50 2 20 4 30 7 00 5 30 8 1010 50 12 20 13 90 15 60 4 Microsoft 8 13 55 19 50 6 50 55 19 553 00 55 19 60 0 94 10 00 6 88 1 19 2 50 4 00 2 69 4 13 6 00 5 38 6 758 13 2 384 50 9 Tbill rates 0 Expiration date 17 Mar 1 Days to expiration25 4 92 4 85 4 91 21 Apr 21 Jul 4 92 4 85 4 91 17 Mar 21 Apr 21 Jul 151 Stock Prices Returns Option Prices

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Study Questions for Itos Dilemma Case Using the Black-Scholes pricing function in Excel, compute an option value for each strike price and maturity date in

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Study Questions for Itos Dilemma Case

Using the Black-Scholes pricing function in Excel, compute an option value for each strike price and maturity date in case Exhibit 2. For simplicity, assume zero dividend yield. Also, use Louise Itos volatility estimates, provided in case Exhibit 1.
Does the model yield logical estimates with respect to intrinsic value and time-to- maturity? What happens to the option premiums as you change the volatility? Can you explain why volatility affects prices in such a manner?
How do your estimates compare with the actual quoted prices? Can you explain the differences? Assuming your prices are correct, which options would you buy or sell?
Are there any problems with the way Ito estimated the volatility numbers? Can you think of another way to estimate volatility that might yield estimates closer to the actual quotes?
Using the Black-Scholes pricing function in Excel, calculate how sensitive IBMs March 110 call price is to changes in stock price. How much does the call price vary for $0.50 changes in IBM share price when the option is at the money (assume stock price=$110), in the money (assume stock price=$115), and out of the money (assume stock price=$105)? What does this sensitivity analysis tell you?

0 Exhibit 2 ITO'S DILEMMA n Premium and Market Data for February 20, 2001 Call Premiums Put Premiums Duke Energy 2.27 40 2.27 42.5 2.70 2.27 45 1.25 4.30 5.30 3.90 4.80 2.40 3.30 0.75 2.40 1.30 2.25 0 IBM 108.90 100 12.00 14.10 18.70 108.90 110 4.40 108.90 120 1.10 8.10 11.40 3.60 7.50 2.20 4.30 7.00 5.30 8.1010.50 12.20 13.90 15.60 4 Microsoft 8.13 55.19 50 6.50 55.19 553.00 55.19 60 0.94 10.00 6.88 1.19 2.50 4.00 2.69 4.13 6.00 5.38 6.758.13 2.384.50 9 Tbill rates 0 Expiration date 17-Mar 1 Days to expiration25 4.92% 4.85% 4.91% 21-Apr 21-Jul 4.92% 4.85% 4.91% 17-Mar 21-Apr 21-Jul 151 Stock Prices & Returns Option Prices + 0 Exhibit 2 ITO'S DILEMMA n Premium and Market Data for February 20, 2001 Call Premiums Put Premiums Duke Energy 2.27 40 2.27 42.5 2.70 2.27 45 1.25 4.30 5.30 3.90 4.80 2.40 3.30 0.75 2.40 1.30 2.25 0 IBM 108.90 100 12.00 14.10 18.70 108.90 110 4.40 108.90 120 1.10 8.10 11.40 3.60 7.50 2.20 4.30 7.00 5.30 8.1010.50 12.20 13.90 15.60 4 Microsoft 8.13 55.19 50 6.50 55.19 553.00 55.19 60 0.94 10.00 6.88 1.19 2.50 4.00 2.69 4.13 6.00 5.38 6.758.13 2.384.50 9 Tbill rates 0 Expiration date 17-Mar 1 Days to expiration25 4.92% 4.85% 4.91% 21-Apr 21-Jul 4.92% 4.85% 4.91% 17-Mar 21-Apr 21-Jul 151 Stock Prices & Returns Option Prices +