Derivative Securities Payable Management

Question: Discuss about the Derivative Securities for Payable Management. Answer: Part: B 1. Current Market Price 140 Volatility Premium 17.5 Premium for Time Value 2.8 Premium for Intrinsic Value 10 Total Premium 30.3 If the price is more than the strike price i.e. 150 then the option will not exercise by the buyer of put option. Hence if the price is lower than strike price then only option will be exercise. American option will exercise early as when the price decreases the buyer of put option will exercise instead of waiting till the date of expiration. 2. Part - a At the time of First three month period = Call option Sold 10000*140 1400000 Put Option to be sold at exercise price of 123.55 1400000/123.55 11331.4 At the time of Second three month period = Call option Sold 10000*140 1400000 Put Option sold at exercise price of 123.55 1400000/123.55 11331.4 Put Option to be sold at exercise price of 109.03 1400000/109.03 12840.5 Additional put option to be purchased 1509.06 Part - b Exercise Price 120 Current Stock Price 130 Premium for Intrinsic Value 10 Premium for Time Value 10 Total Premium 20 Risk Free Rate 7.69 Part - c There is flexibility in the American put option as the same can be exercised before the expiration period. Due to this risk decreases and return increases and accordingly investor will attract. 3 (a) Call option will be exercised if the market price at the time of expiration is more than the exercise price. 3 (b) Value of Put Option Premium for Intrinsic Value Portion Nil Premium for Time Value 1.75 Premium for Volatility 5.83333 Total Premium 7.58333 4 (a) If Option is European C +PV(X) = p+s PV(X) 80/1.015 78.82 P 6.5 S 78 C+78.82 = 6.5+78 C = 6.5+78-78.82 C = 5.68 If Option is American C +X = p+s X 80 80.00 P 6.5 S 78 C+80 = 6.5+78 C = 6.5+78-80 C = 4.5 Range of Possible Values for Call Option is 4.5 to 5.68. 4 (b) Straddle Buying Call for $60 @$6 Buying Put for $60 @$4 Option Premium Payable 10 BEP on Higher Side Call option will be exercised put option will be expired. BEP = 60+10 = 70 BEP on Lower Side Put option will be exercised Call option will be expired. BEP = 60-10 = 50 Loss Zone 50 to 70 If Price is less than 50 then Profit and If Price is More than 70 then also profit. Price 40 50 60 70 80 Premium Payable 10 10 10 10 10 Option Exercise Call - - - 10 20 Put 20 10 - - - Total Inflow 20.00 10.00 - 10.00 20.00 Net Inflow 10.00 - -10.00 - 10.00 We can see that the profit will start if prices are more than $70 and less than $50.