Assume that a financial institution (FI) has purchased 3,500 shares of AB and 7,500 shares of CD. The share’s AB current bid and offer are £48.5 and £50.1 respectively while the share’s CD current bid and offer are £101.1 and £101.5 respectively. Suppose further that the bid–offer spreads are normally distributed with a mean and a standard deviation of 1% for AB and with a mean of 3% and a standard deviation of 4% for CD. a) Which of the two shares (AB and CD) has the higher cost in terms of execution? Explain b) Calculate the cost of liquidation in a normal market c) Calculate the cost of liquidation in a stressed market at a 95% confidence level. Using your answers to (b), what do you observe?
Assume that a financial institution (FI) has purchased 3,500 shares of AB and 7,500
shares of CD. The share’s AB current bid and offer are £48.5 and £50.1 respectively
while the share’s CD current bid and offer are £101.1 and £101.5 respectively. Suppose
further that the bid–offer spreads are
deviation of 1% for AB and with a mean of 3% and a standard deviation of 4% for CD.
a) Which of the two shares (AB and CD) has the higher cost in terms of execution?
Explain
b) Calculate the cost of liquidation in a normal market
c) Calculate the cost of liquidation in a stressed market at a 95% confidence level.
Using your answers to (b), what do you observe?
II. Consider a European call option on a non-dividend-paying stock. The following table
shows the value (in £), the delta (Δ), the gamma (Γ) and the theta (Θ) for a long
position in one option:
(see the image)
a) Using the numbers in the table, if there is an increase of £0.5 in the stock price,
explain how the delta and the gamma for a long position in one option can be
interpreted
b) Using the numbers in the table, explain how the theta for a long position in one
option can be interpreted
c) Calculate the value (in £), the delta (Δ), the gamma (Γ) and the theta (Θ) for a short
position in 10,000 options
d) Using your answers to (c), if there is an increase of £0.5 in the stock price, explain
how the delta and the gamma for a short position in 10,000 options can be
interpreted
e) Explain how the theta for a short position in 10,000 options can be interpreted
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