ECON 136: Financial Economics
Section 3 (Sep 11th)
Xing Huang
1
Economics Department, UC Berkeley
1
Bid Price / Ask Price
Bid Price: the price the dealer is willing to pay to buy a security from the investor.
Ask Price: the price the investor pay when the investor are buying a security.
Ask Price
>
2
Options
2.1
Call Options
A European call option is the right but not the obligation to buy the underlying asset
S
, at the
expiration date
T
X
(the strike price). The payo/ of a European call is
thus,
C
T
= max
f
S
T
±
X;
0
g
2.2
Put Options
A European put option is the right but not the obligation to sell the underlying asset
S
, at the
expiration date
T
X
(the strike price). The payo/ of a European call is
thus,
P
T
= max
f
X
±
S
T
;
0
g
2.3
PutCall Parity
Let±s consider an economy with four assets: a stock
S
, a riskfree bond, a put option on the stock
P
, and a call option on the stock
C
. The options both have the same expiration date
T
and strike
price
X
. Looking at the payo/s of the four assets reveals that one of the assets is redundant. Here
is another way to form two portfolios which have the same payo/ in any state.
Payo/ of portfolio 1 (buy call, sell put)
C
T
±
P
T
= max
f
S
T
±
X;
0
g ±
max
f
X
±
S
T
;
0
g
=
S
T
±
X
Payo/ of portfolio 2 (buy stock, borrow strike)
S
T
±
X
1
Thank you all very much !!
1
This preview has intentionally blurred sections. Sign up to view the full version.
View Full DocumentYou could try to draw the payo/ diagrams of these two portfolioes by your own, and will also
get the same payo/s. Since these payo/s are equivalent, if LOOP holds then the portfolio prices
must be equal. Let
S
t
,
C
t
, and
P
t
denote the price of the stock, call, and put at time
This is the end of the preview. Sign up
to
access the rest of the document.
 Fall '08
 SZEIDL
 Economics, Expiration date

Click to edit the document details