AP/ADMS 4503 3.0 Derivative Securities
(1) This assignment is to be done individually. You must sign and submit
the standard cover page supplied as the last page of this assignment.
Staple your assignment prior to handing it in.
(2) This assignment is due on April 1, 2013.
(3) The work can be typed or handwritten. If it is handwritten and too difficult
to read due to messiness and poor handwriting, it will receive zero credit.
(4) You must show your work to receive full credit.
(5) This assignment contains 5 questions and carries a total of 30 points.
Question 1 (6 marks)
The spot price of GS is $150.53 and the 6-month 165-strike put is selling at $18.
GS is expected to pay a dividend of $0.50 in 4 and 7 months. The risk-free rate is
4%. All options considered in this question are European-style.
(a) What is the fair price of the 6-month call on GS? (2 marks)
(b) The 6-month call is selling at $7 in the market, show how you can benefit
from this arbitrage opportunity. Show all details. (2 marks)
(c)Will there still be an ar bitrage opportunity if the options above were
American-style? Show all details. (2 marks)
Question 2 (6 marks)
Consider a 1-year bull call spread on E QIX with strikes of $200 and $220. EQIX
spot price is $212 and its volatility is30%. The risk-free rate is 4% per annum
continuously compounded. We assume that EQIX is not expected to pay any
(a) Use a 6-step binomial tree to pric e the spread. (Up and down movements
need to match the volatility. Show all the tree parameters). (2 marks)
(b) What are the break-even point(s), the maximum profit and maximum loss
for this strategy? (2 marks)
(c)Without using the binomial tree, w hat is the premium of the bear put
spread with the same strike prices? Explain. (2 marks)
Page 1 ADMS4503 3.0 Assignment #2
Question 3 (7 marks)
2 S +3 S
A European-style derivative on GOOG pays off max ⎜830− T 0;0⎟ in 1-year
⎝ 5 ⎠
if and only if S is higher than 780; where S and S are GOOG prices at time 0
T 0 T
and one year from now respectively. GOOG spot price is $806 and its volatility is
35%. The risk-free rate is 4% per annum continuously compounded. Consider a
4-step binomial tree.
(a)Calculate the tree parameters u, d and the risk-neut ral probability p.
(Up and down movements need to match the volatility. Keep