Problem Set 4

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Feb 20, 2024

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Agricultural Economics 330 Problem Set 4 Due Monday, November 27th Here are five stocks and their rates of return for the past year: Stock X: 6.4% Stock Y: -2.8% Stock Z: 7% Stock $: 11.9% Stock &: -9.5% Calculate the portfolio rate of return for each of the following investment firms: Aggie Investors: 20% each of the five stocks Reveille Wealth Advisors: 30% Stock X, 20% Stock $, 50% Stock & Jimbo’s Money People: 25% Stock Y, 40% Stock Z, 15% Stock $, 20% Stock & Mays Finance Grads: Stock X, Stock Y, and Stock Z split evenly by thirds Answers:

Where x = Proportion of stock within portfolio 𝜎 = standard deviation  = correlation coefficient Stocks: Stock L: 𝜎 = 17 X = 60% Return = 8.1% Stock M: 𝜎 = 11 X = 40% Return = 3.5%  = .19 Find the Portfolio Rate of Return, then find the Portfolio Variance and Standard Deviation Stocks: Stock S: 𝜎 = 16 X = 55% Return = 2.2% Stock R: 𝜎 = 29 X = 45% Return = -4.6%  = .65 Find the Portfolio Rate of Return, then find the Portfolio Variance and Standard Deviation ) σ σ ρ x x ( 2 σ x σ x Variance Portfolio 2 1 12 2 1 2 2 2 2 2 1 2 1 + + =

Stocks: Stock A: 𝜎 = 34 X = 30% Return = 14.8% Stock B: 𝜎 = 11 X = 70% Return = 6.2%  = .35 Find the Portfolio Rate of Return, then find the Portfolio Variance and Standard Deviation Stocks: Portfolio X: 𝜎 = X = 80% Return = Stock Y: 𝜎 = 47 X = 20% Return = 9.9%  = .15 Using your answers to the previous question for Portfolio X, find the new Portfolio Rate of Return, then find the Portfolio Variance and Standard Deviation

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Comcast is currently trading at $41.90 per share. You expect the price of the stock to rise, so you purchase 3 call options at a premium of $2.50 ($250 per option contract), at a strike price of $41.90. What price does the stock need to reach in order to break even? If, at time of expiration, the stock is trading at $38.75 per share, will you exercise your option? What is your total profit/loss in this scenario? If, at the time of expiration, the stock is trading at $46.19 per share, will you exercise your option? What is your total profit/loss in this scenario? Walmart is currently trading at $166.42 per share. You expect the price of the stock to fall, so you purchase 5 put options at a premium of $5.75 ($575 per option contract), at a strike price of $162. What price does the stock need to reach in order to break even? If, at time of expiration, the stock is trading at $147.50 per share, will you exercise your option? What is your total profit/loss in this scenario? If, at the time of expiration, the stock is trading at $158.96 per share, will you exercise your option? What is your total profit/loss in this scenario?

You have 300 shares of Kinder Morgan (KMI) in your personal trading account. Currently KMI is trading at 16.52 per share. You want to earn some extra income by writing call options and using your personal shares as collateral, creating covered calls. You write three call options for one month from today, at a strike price of 18.50, for $0.75 per share ($75 per contract). What is your gain/loss if the market price of KMI is $17.23 one month from today? What is your gain/loss if the market price of KMI is $15.08 one month from today? What is your gain/loss if the market price of KMI is $19.60 one month from today? You have 500 shares of Kraft Heinz Co (KHC) in your personal trading account. Currently KHC is trading at 33.24 per share. You want to earn some extra income by writing call options and using your personal shares as collateral, creating covered calls. You write five call options for one month from today, at a strike price of $36, for $1.45 per share ($145 per contract). What is your gain/loss if the market price of KHC is $29.10 one month from today? What is your gain/loss if the market price of KHC is $37.51 one month from today? What is your gain/loss if the market price of KHC is $32.67 one month from today?

Written-Answer Questions: In your own words, write a few sentences for each question. There are no strictly “right” answers, so simply show your understanding of the material and credit will be given. A investor benefits from holding a diversified portfolio, not just diverse in terms of stocks, but diverse in terms of asset classes as well. List five other types of asset classes, and rank them from most risky to least risky (volatility). Texan grid operators often put natural gas generators on “standby mode”, which runs their turbines and steam exchangers at a steady state of low power, so that the grid operator has the option to increase production at those facilities at a moment’s notice . They tend to do this when they expect high energy demand and relatively low power supply, when the threat of a blackout is at its highest. Paying for these turbines to run on standby mode has a cost, similar to how buying a call or put option has a cost. The ability to react quickly to changing market conditions in order to capture value is why options have value in and of themselves. The average consumer, such as yourself, pays for options in many ways in their daily lives. Describe one such situation and whether you believe paying for that freedom of decision-making is worth it to you and why.

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