Bhupatbhai Gasworks, Incorporated, has been approached to sell up to 3.6 million gallons ofgasoline in three months at a price of $2.95 per gallon. Gasoline is currently selling onthe wholesale market at $2.80 per gallon and has a standard deviation of 58 percent. Ifthe risk-free rate is 3 percent per year, what is the value of this option? Use the two-statemodel to value the real option. (Do not round intermediate calculations and enter youranswer in dollars, not millions of dollars, rounded to 2 decimal places, e.g.,1,234,567.89.)Answer is complete but not entirely correct.Value of contract$1,235,409.64

Step 1: To value the real option using the two-state model, we need to calculate the expected value…

Answered: Gasworks, Incorporated, has been…

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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Gasworks, Incorporated, has been approached to sell up to 4.2 million gallons of gasoline in three months at a price of $3.30 per gallon. Gasoline is currently selling on the wholesale market at $3.10 per gallon and has a standard deviation of 58 percent. If the risk-free rate is 4 percent per year, what is the value of this option? Use the two-state model to value the real option. (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to 2 decimal places, e.g., 1,234,567.89.)
Gasworks, Incorporated, has been approached to sell up to 2.6 million gallons of gasoline in three months at a price of $2.55 per gallon. Gasoline is currently selling on the wholesale market at $2.30 per gallon and has a standard deviation of 60 percent. If the risk-free rate is 6 percent per year, what is the value of this option? Use the two- state model to value the real option. (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to 2 decimal places, e.g., 1,234,567.89.) Value of contract
4
You own a one-year European call option to buy one acre of Los Angeles real estate. The exercise price is $2.20 million, and the current, appraised market value of the land is $1.90 million. The land is currently used as a parking lot, generating just enough money to cover real estate taxes. The annual standard deviation is 17% and the interest rate is 12%.How much is your call worth? Use the Black–Scholes formula. (Enter your answer in dollars not in millions, rounded to the nearest dollar. Do not round intermediate calculations.)
lronTrade is considering investing in a mining project that can be sold anytime during its life for $69,000. The value of the project is $81,000 today. During each of the next two 6-month periods, the value of the project is expected to either increase by 30% or fall by 30%. The risk-free interest rate is 10% per six months. What is the value of the embedded option using the risk-neutral method?
Suppose the price of gasoline per gallon is currently $5. The risk manager of Universe Airlines expects the price per gallon next year to be either $7 or $4 with equal probabilities. The company plans to buy 1 million gallons of gasoline in one year. The risk manager is concerned about future rising cost of gasoline and is considering using either futures or calls to hedge against the risk. Suppose the riskfree interest rate is 10% per annum. What is the futures price of gasoline per gallon for delivery in one year? What are the possible payoffs of the futures one year from now? If calls are used, only the ones with the same exercise price as the futures price are available now. How much would it cost to buy the calls? What are the possible profits of the calls (the payoffs net of the call premium) one year from now? Suppose the investors of the company are risk averse and their collective risk attitude can be described by log utility. Assume that the risk manager maximizes the…
Suppose that your company is planning to sell 1.25 million litres of fuel in two years. Thecurrent price of fuel is £1.60 per litre. a) Suppose there is a two-year heating oil futures contract available. The futuresprice is £1.63 per litre. How many contracts would you need to fully eliminate yourrisk exposure over the next two years? How many contracts would you need ifyour optimal hedging ratio was 0.75? What position in these contracts would youtake today? Explain. b) Evaluate the outcomes of your hedging strategy if the price of fuel in two years is(1) £1.72 per litre, and (2) £1.58 per litre. In each case assume the heating oilfutures price to be equal to that of the fuel. Comment on your results.
You are considering an investment manufacturing cocoa powder. This investment needs $185,000 today and expects to repay you $200,000 in a year from now. What is the IRR of this investment opportunity? Given the riskiness of the investment opportunity, your discount rate is 11%. What does the IRR rule say about whether you should invest? a. The IRR is 7.5%. The IRR rule says that you should not invest. b. The IRR is 8.11%. The IRR rule says that you should not invest. c. The IRR is 1.2%. The IRR rule says that you should not invest. d. The IRR is 16.8%. The IRR rule says that you should invest.
You own a one-year European call option to buy one acre of Los Angeles real estate. The exercise price is $2.03 million. Suppose the land is occupied by a warehouse generating rents of $165,000 after real estate taxes and all other out-of-pocket costs. The present value of the land plus the warehouse is $1.73 million. The annual standard deviation is 18% and the interest rate is 11%.How much is your call worth? (Enter your answer in dollars not in millions. Do not round intermediate calculations.)
The price of Bobco stock is currently $60. In one year, the price will either be s66 or $54. If the one-year risk free rate of interest is 6%, what is the price of a Bobco call option with an exercise price of $61? Recall, you will want to set 66N - 1.06B = 5 as one of the equations you need to solve this problem. You will need to figure out the other equation, then use both equations to solve for N and B. Then, you will price the portfolio of N shares less the amount borrowed. Round your answer to nearest cent. $6 $60 $54
This question will compare two different arbitrage situations. Recall that arbitrage should equalize rates of return. We want to explore what this implies about equalizing prices. In the first situation, two assets, A and B, will each make a single guaranteed payment of $100 in 1 year. But asset A has a current price of $80 while asset B has a current price of $90.a. Which asset has the higher expected rate of return at current prices? Given their rates of return, which asset should investors be buying and which asset should they be selling?b. Assume that arbitrage continues until A and B have the same expected rate of return. When arbitrage ceases, will A and B have the same price?Next, consider another pair of assets, C and D. Asset C will make a single payment of $150 in one year while D will make a single payment of $200 in one year. Assume that the current price of C is $120 and that the current price of D is $180.c. Which asset has the higher expected rate of return at current…
Suppose a Japanese company, Matsushita, has to sell Can$ 50 m sometime during the next 6 months, and would like to lock in a minimum ¥ value. The price of a put option with a strike price of K = ¥ 230/$ is ¥ 4/$ What is the actual amount that they receive if the spot rate at the end of 3 months is ¥ 245/$?Since ST >K, the options are worthless and Matsushita can do better by selling at the market rate of ¥ 245/$, rather than the exercise price of ¥ 230/$. Thus, their total receipts will be O¥4/$ O¥ 234 / $ O¥241/$ O¥ 230 / $

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