Binomial Trees : Option Pricing Model And The Black Scholes Model

1.The differences in accounting for proceeds from the issuance of convertible bonds and of debt instruments with separate warrants to purchase common stock.

The bonds can be issues with fixed interest or variable rate interest, each of which has its advantages and there disadvantages.

The approach helps in calculating rigorous savings that can be done in the future and hence this method vital.

- Schedule Variance (SV): The Schedule Variance indicates a value which is a measure of how much the project is either ahead or behind at a given point in time. For any given point in time, once the EV and PV are known the SV can easily be calculated. The formula for SV is quite simply: SV = EV – PV. Here a positive value indicates that the project is ahead at the current point in time and a negative value would indicate the opposite that a project is behind at the current point in time.

Week 1 – Introduction – Financial Accounting (Review) Week 2 – Financial Markets and Net Present Value Week 3 – Present Value Concepts Week 4 – Bond Valuation and Term Structure Theory Week 5 – Valuation of Stocks Week 6 – Risk and Return – Problem Set #1 Due Week 7* – Midterm (Tuesday*) Week 8 - Portfolio Theory Week 9 – Capital Asset Pricing Model Week 10 – Arbitrage Pricing Theory Week 11 – Operation and Efficiency of Capital Markets Week 12 – Course Review – Problem Set #2 Due

If they stay low or are constantly moving, you can be changed in a negative

Thus, the security is compound financial instrument. If the convertible debt is convertible at the investor’s option, the initial proceeds are divided between the debt element (both principal and interest) and the equity element, the conversion option.

(b) As the stock’s price rises, the time value portion of an option on a stock increases because the difference between the price of the stock and the fixed strike price increases.

both actions. Looking once again at Figure 1, it is possible to conclude that the chances of it to

The risk free rates of interest in Canada and the United States are 4% and 5% per annum, respectively,. Calculate the value of a European call option to buy one Canadian dollar for US $.85 in nine months. Use put-call parity to calculate the price of a European put option to sell one Canadian dollar for US d$.85 in nine months. What is the price of a call option to buy US $ .85 with one Canadian dollar in nine months?

In 2006, Merrill Lynch became the lead book runner for a $5 billion convertible bond issue for MoGen, Inc. This was the single, largest convertible bond issuance in history and required a considerable amount of effort on the part of Merrill Lynch’s Equity Derivatives Group to convince MoGen’s management to choose Merrill Lynch over its competitors. The case is focused on Merrill Lynch’s choice of the conversion premium and coupon rate to propose to MoGen management. This pricing decision requires students understand the concept of valuing a convertible as the sum of a straight bond plus the conversion option. Valuing the conversion option as a call option requires the

firm’s financing, for example, issuing or repurchasing stock and borrowing or repaying loans. It also

To better determine if an arbitrage opportunity exists, the theoretical and actual yield spreads of both bonds can be compared. This determines whether both bonds are properly priced relative to each other, eliminating the need to have true prices for both bonds to determine if each bond is rightly priced. Based on our

•Yan, A., Nandy, D., and Chemmanur, T. "Why issue mandatory convertibles? Theory and empirical evidence, February (2003) Retrieved on 18.3.2008 (http://ideas.repec.org/p/ecm/nawm04/456.html)•http://www.investorwords.com/5362/yield.html. 18/3/2008.

This method is widely used as it is able to handle a variety of conditions. Finite difference methods were first applied to option pricing by Eduardo Schwartz in1977. In general, finite difference methods are used to price options by approximating the differential equation that describes how the option price moves over time by a set of difference equations. This method arises since the option value can be modeled by partial differential equations, such as the Black-Scholes PDE. This approach has the same level of complexity tree methods. The application of Monte Carlo method to option pricing was by Phelim Boyle in 1977. In terms of theory, Monte Carlo valuation relies on risk neutral valuation. The technique is to generate several thousand possible random price paths for the underlying asset and via simulation, and to calculate the average payoff of each path. This approach is particularly useful in the valuation of options with complicated features, which would be difficult to value through straightforward Black-Scholes style or tree model. ( reference [3] Valuation of Options)