AS 2503/5106
Exercises, Chapter A
[A]
Fall 2016
Introduction to Derivatives (M, Ch. 1)
A-1
ABC stock has a bid price of $40.95 and an ask price of $41.05. Assumer the brokerage fee is
quoted as 0.3% of the bid or ask price.
(a) What amount will you pay to

Thus, if a $3 reward were earned each period, the total reward earned during an innite number of periods would be unbounded, but the average reward per period would equal $3.
In our discussion of innite horizon problems, we choose to resolve the problem o

VB 490.23. These values agree with those found via the policy iteration method. The
LINDO output also indicates that the rst, second, fourth, and seventh constraints have
no slack. Thus, the optimal policy is to replace a bad machine and not to replace an

not an optimal policy. In this case, modify d so that the decision in each state i is the decision attaining the minimum in (16) for Td (i). This yields a new stationary policy d for
which Vd(i) Vd (i) for i 1, 2, . . . N, and for at least one state i, Vd

SUMMARY
Key to Formulating Probabilistic Dynamic
Programming Problems (PDPs)
Suppose the possible states during period t 1 are s1, s2, . . . sn, and the probability that
the period t 1 state will be si is pi. Then the minimum expected cost incurred during

AS 2503/5106
Solutions, Chapter C
Fall 2016
C-5
Solution:
By the put-call parity:
500.00 + 18.64 = 66.59 + e0.061 K ,
and thus K = 480 .
C-6
Solution:
Answer: E. There are (at least) two ways to think of this:
Fixing the future purchase price of an asset

AS 2503/5106
Exercises, Chapter B
[B]
Fall 2016
Introduction to Forwards & Options (M, Ch. 2)
B-1
Farmer Tom planted 100 acres of corn. He is concerned that the corn price will go down by the
time he harvests. He makes an arrangement (contract) with Kello

AS 2503/5106
Solutions, Chapter B
Fall 2016
B-5
Solution:
I only. The purchaser has no choice in the transaction except to accept delivery of the
asset or make a financial settlement. (A forward contract is not an option.) The forward
price is determined

AS 2503/5106
Exercises, Chapter D
[D]
Fall 2016
Intro to Risk Management (M, Ch. 4)
D-1
A firm has a 70% chance of making a $800 profit, and a 30% change of suffering a $500 loss
next year. The appropriate effective annual discount rate is 6%.
(a) The fir

We let d represent an arbitrary policy and represent the set of all policies. Then
Xt random variable for the state of MDP at the beginning of period t (for
example, X2, X3, . . . , Xn)
X1 given state of the process at beginning of period 1 (initial state