ADMS 1000 Lecture Notes - Lecture 23: Spot Market, Call Option, Arbitrage

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blushweasel304

6 Jul 2018

School

York University

Department

Administrative Studies

Course

ADMS 1000

Professor

Alan Shapiro

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ADMS 1000 Full Course Notes

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The arbitrage would force an adjustment in option premiums so that put-call parity is no longer violated. The arbitrage that can be applied when there is a violation of put-call parity on. American currency options differs slightly from the arbitrage applicable to european currency options. Nevertheless, the concept still holds that the premium of a currency put option can be determined according to the premium of a call option on the same currency and the same exercise price. Second, if the foreign currency appreciates and therefore exceeds the exercise price, there will be a loss from the call option being exercised. Since the arbitrage generates a profit under any exchange rate scenario, it will force an adjustment in the option premiums so that put-call parity is no longer violated. If the actual put option premium is more than what is suggested by put-call parity, arbitrage would again be possible.

Related Questions

1. If a US company has net cash outflows in a foreign currency, which of the following is false?
(A) The US company would benefit from a drop-in value of the foreign currency.
(B) The US company would benefit from an increase in value of the foreign currency.
(C) The US company would suffer a loss from a decrease in value of the foreign currency.
(D) The appreciation or depreciation of the foreign currency would be irrelevant.
.........

2 A US firm that has cash flows in a foreign currency will have an economic GAIN if

I. the foreign currency appreciates, and the US firm has net cash inflows

II. the US firm has net cash outflows and the foreign currency depreciates

(A) I only

(B) II only

(D) Neither I nor II

.......

3. The decision to exercise a call option would be based on

I. strike price

II. call premium

III. market price of the underlying security

(A) I and II

(B) II and III

(D) I only

................

4. Which of the following is FALSE regarding the US dollar?

(A) A strong US dollar makes domestic goods relatively more expensive than imported goods.

(B) A strong US dollar is better for a US company than a weak US dollar.

(D) A weak US dollar makes domestic goods more expensive than

imported goods.

............

5. Wright International is a US firm that typically exports goods to Japan. Since the international receivables are denominated in yen, they are subject to fluctuating currency rates. To mitigate chis risk, Wright sometimes purchases put options to protect against loss from a decline in the yen. The put premium is relevant to the

I. decision to exercise the option

II. calculation of gain or loss on the exercise of the put option

(A) I only

(B) II only

(D) Neither I nor II

pl explain answer

tealelk83

Wilson Ltd. Corporation will need to purchase 200,000 British pounds in 90 days. A call option exists on British pounds with an exercise price of $1.68, a 90 day expiration date, and a premium of $.04. A put option exists on British pounds, with an exercise price of $1.69, a 90 day expiration date, and a premium of $.03. Wilson plans to purchase options to cover its future payables. It will exercise the option in 90 days (if at all). It expects the spot rate of the pound to be $1.76 in 90 days. Determine the amount of dollars it will pay for the payables, including the amount paid for the option premium. SHOW ALL WORK

A) $360,000.

B) $338,000.

C) $332,000.

D) $336,000.

E) $344,000.

A put option on yen is written with a strike price of Â¥105.00/$. How much profit/loss will you make if you choose to exercise the option at Â¥107.00/$?

A call option on euros is written with a strike price of $1.30/euro. How much profit/loss will you make if you choose to exercise the option at $1.45/euro?

A call option on UK pounds has a strike price of $2.05/Â£ and a cost of $0.02. What is the break-even price for the option?

Your U.S firm has an accounts payable denominated in UK pounds due in 6 months. What you should do by using currency options to protect yourself against unexpected changes in the dollar/pound exchange rate?

What will be your maximum gain and maximum loss in dollars, if you short a euro call option against dollar with strike price of $1.35/euro and at a premium of $0.07?

What will be your maximum gain and maximum loss, if you long a UK pounds put option with strike price of $1.80/Â£ and a cost of $0.7?

What will be your maximum gain and maximum loss, if you short a Japanese Yen put option with strike price of Â¥103.00/$ and a cost of Â¥10?

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ADMS 1000 Lecture Notes - Lecture 23: Spot Market, Call Option, Arbitrage

ADMS 1000 Full Course Notes

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