sol1 - ACTSC/STAT 446/846 Assignment 1 Solutions (Note that...

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Unformatted text preview: ACTSC/STAT 446/846 Assignment 1 Solutions (Note that I accidentally listed the two rst problems as suggested problems in the rst problem set and therefore gave away the solution: so they are not listed here. Each of 2.7 and 3.3 were marked out of 1 mark.) McDonald 3.11 [3pts] In order to be able to draw the prot diagram, we need to nd the future value of the costs of establishing the suggested position. We need to nance the index purchase, buy the 950-strike put and we receive the premium of the sold call. Therefore, the future value of our cost is: ($1 , 000-$71 . 802 + $51 . 777) 1 . 02 = $999 . 57. Now we can draw the prot diagram (left): The net option premium cost today is:-$71 . 802 + $51 . 777 =-$20 . 025. We receive about $20 if we enter into this collar. If we want to construct a zero-cost collar and keep the 950-strike put, we would need to increase the strike price of the call. By increasing the strike price of the call, the buyer of the call must wait for larger increases in the underlying index before the option pays o. This makes the call option less attractive, and the buyer of the option is only willing to pay a smaller premium. We receive less money, thus pushing the net option premium towards zero. McDonald 3.13 [3pts] The following gure depicts the requested prot diagrams. We can see that the aggregation of the bought and sold straddle resembles a bear spread. It is bearish, because we sold the straddle with the smaller strike price. 1 McDonald 4.5 [5pts] XYZ will buy collars, which means that they buy the put leg and sell the call leg. We have to compute for each case the net option premium position, and nd its future value. We have for 1. ($0 . 0178-$0 . 0376) 1 . 062 =-$0 . 021 2. ($0 . 0265-$0 . 0274) 1 . 062 =-$0 . 001 3. ($0 . 0665-$0 . 0194) 1 . 062 = $0 . 050 1. Copper price in Total cost Prot on .95 Prot on short Net Hedged prot one year put $1.00 call premium $0.70 $0.90 $0.25-$0.021 $0.0710 $0.80 $0.90 $0.15-$0.021 $0.0710 $0.90 $0.90 $0.05-$0.021 $0.0710 $1.00 $0.90 $0...
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This note was uploaded on 03/17/2012 for the course ACTSC 446 taught by Professor Adam during the Spring '09 term at Waterloo.

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sol1 - ACTSC/STAT 446/846 Assignment 1 Solutions (Note that...

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