friend of yours believes that Tesla is the best car in the world and that Tesla stock is now undervalued. As a result, she expects that its stock price, now at $775 per share, will continue to go up. She is prepared to back up her conviction by offering you the following bet. If in exactly one year from now Tesla stock price is lower than $775/share, she will give you one hundred times the amount of the difference (e.g., suppose the price in one year is $700 per share, you will get $7,500). On the other hand, if the price in one year ends up above $775/share, you will have to give her one hundred times the amount of the difference (e.g., suppose the price in one year is $800 per share, you will have to give her $2,500). Suppose that the expected return on Tesla stock is 10% p.a. Suppose also that the current risk-free rate is 2% p.a. and Tesla does not plan to pay dividends in the next year. What is the value of this bet to you? [Hint: Write out the payoff of the bet. What does the payoff look like?
friend of yours believes that Tesla is the best car in the world and that Tesla stock is now undervalued. As a result, she expects that its stock price, now at $775 per share, will continue to go up. She is prepared to back up her conviction by offering you the following bet. If in exactly one year from now Tesla stock price is lower than $775/share, she will give you one hundred times the amount of the difference (e.g., suppose the price in one year is $700 per share, you will get $7,500). On the other hand, if the price in one year ends up above $775/share, you will have to give her one hundred times the amount of the difference (e.g., suppose the price in one year is $800 per share, you will have to give her $2,500). Suppose that the expected return on Tesla stock is 10% p.a. Suppose also that the current risk-free rate is 2% p.a. and Tesla does not plan to pay dividends in the next year. What is the value of this bet to you? [Hint: Write out the payoff of the bet. What does the payoff look like?
Trending now
This is a popular solution!
Step by step
Solved in 2 steps
