Essay on Exam

1041 WordsAug 4, 20135 Pages
FINS 5535 Derivatives and Risk management Techniques Group Assignment Implied Volatilities & Volatility Smiles 1. Why does the target cell in the Solver minimization reference the control variate estimate of the American Put option instead of the value as implied by the tree? It is because that control variate estimate is more accurate than the implied value by the tree. The error of the binominal tree can be reduced by using it only to calculate the difference between the price of the American and the equivalent European options with the same strike and the same time to maturity. 2. Use Solver to find the implied volatilities for all put options with strike prices between $70 and $100 that are divisible by 5 and…show more content…
Enter a start date of your choice and then enter in the field for expiration date =settlement+182 for the first maturity. Submit the table and the graph. 5. Fix the time to maturity at 365 days. Now vary the strike price as before and also vary the interest rate between 1.0%, 4.0% and 7.0%. Submit the table and the graph. 6. Describe briefly how the EEP depends on the parameters we varied in this exercise. From the results we observe that early exercise premium increases at different maturity dates for the same strike price and when varying strike price with the same maturity date the early exercise premium increases non linearly in an upward trend. The shift in the trending from options 1, 2, 3 can be explained by the maturity, as maturity increases an American option is more worthwhile because more node exist where it is possible for us to exercise early. From the results early exercise price as a function of strike price, maturity and interest rate, increases when we hold maturity constant and vary the other two. The shift in trending can be explained by the increase in interest rates for options 1, 2, 3 respectively. When interest rate is increased the present value of the underlying drops and the likeliness of the option being in the money increases and therefore the value of put option increases. Oscillation in the Binomial Tree 7.

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