You are an executive at a large Fortune 500 company. Twenty five percent of your compensation is paid out in restricted stock in the company you work for. This means that you are prevented from selling your shares for the next three years from the date when the shares were awarded to you. Over the years you have accumulated a significant number of shares in the company such that your personal net worth (estimated at around $50MM) is highly concentrated in the companys stock and they form 70% of your entire net worth. The current stock price is $100 per share.

Your company is undertaking an aggressive expansion strategy over the next five years. If everything goes according to plan, the price of shares in the company is expected to grow at a robust pace. Given the amount of risk that the company is taking, there is also a not so insignificant possibility that the stock price can tumble in the near future.

1. You want to protect yourself from downside risk but you do not want to pay a significant price/premium to accomplish your goal. Current tax law states that for the IRS not to judge your hedge as an effective sale you need to retain at least 20% downside on your stock. Formulate a hedge that achieves these objectives by using options. Be very specific in the positions that you want to take in each and every option describing the theoretical amounts, terms, strike prices, etc.
2. After one year, the expansion strategy is going very well and the stock price has appreciated by 50% to $150 per share. Without going through the calculations, do you believe your hedge position is in-the-money or out-of-the-money? Explain your answer.