CORPORATE FINANCE CUSTOM W/CONNECT >BI
11th Edition
ISBN: 9781307036633
Author: Ross
Publisher: MCG/CREATE
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Textbook Question
Chapter 22, Problem 28QP
Two-State Option Pricing Model Maverick Manufacturing, Inc., must purchase gold in three months for use in its operations. Maverick's management has estimated that if the price of gold were to rise above $1,380 per ounce, the firm would go bankrupt. The current price of gold is $1,270 per ounce. The firm’s chief financial officer believes that the price of gold will either rise to $1,465 per ounce or fall to $1,120 per ounce over the next three months. Management wishes to eliminate any risk of the firm going bankrupt. Maverick can borrow and lend at the risk-free EAR of 6.50 percent.
- a. Should the company buy a call option or a put option on gold? To avoid bankruptcy, what strike price and time to expiration would the company like this option to have?
- b. How much should such an option sell for in the open market?
- c. If no options currently trade on gold, is there a way for the company to create a synthetic option with identical payoffs to the option just described? If there is, how would the firm do it?
- d. How much does the synthetic option cost? Is this greater than, less than, or equal to what the actual option costs? Does this make sense?
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Chapter 22 Solutions
CORPORATE FINANCE CUSTOM W/CONNECT >BI
Ch. 22 - Options What is a call option? A put option? Under...Ch. 22 - Options Complete the following sentence for each...Ch. 22 - American and European Options What is the...Ch. 22 - Intrinsic Value What is the intrinsic value of a...Ch. 22 - Option Pricing You notice that shares of stock in...Ch. 22 - Options and Stock Risk If the risk of a stock...Ch. 22 - Option Risk True or false: The unsystematic risk...Ch. 22 - Prob. 8CQCh. 22 - Option Price and Interest Rates Suppose the...Ch. 22 - Contingent Liabilities When you take out an...
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