Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
12th Edition
ISBN: 9781259144387
Author: Richard A Brealey, Stewart C Myers, Franklin Allen
Publisher: McGraw-Hill Education
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Textbook Question
Chapter 21, Problem 5PS
Binomial model* Over the coming year, Ragwort’s stock price will halve to $50 from its current level of $100 or it will rise to $200. The one-year interest rate is 10%.
- a. What is the delta of a one-year call option on Ragwort stock with an exercise price of $100?
- b. Use the replicating-portfolio method to value this call.
- c. In a risk-neutral world, what is the probability that Ragwort stock will rise in price?
- d. Use the risk-neutral method to check your valuation of the Ragwort option.
- e. If someone told you that in reality there is a 60% chance that Ragwort’s stock price will rise to $200, would you change your view about the value of the option? Explain.
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Assume that you are using the Capital Asset Pricing Model (CAPM) to find the expected return for a share of common stock. Your research shows the following:
Beta = βi = 1.54
Risk free rate = Rf = 2.5% per year
Market return = E(RM) = 6.5% per year
Based on this information, answer the following:
A. Based on the beta, how does the stock's risk compare to the market overall? On what do you base your answer?
B. Based on the beta, how would you expect the stock's returns to react to a decrease in returns in the market overall? Why?
C. According to the CAPM and the information given above, what is the expected return E(Ri) for this stock?
D. If the required rate of return on this stock were 7% per year, would you invest? Why or why not?
3) Suppose that the price of a non-dividend-paying stock is $27, its vo itility is 20%, and the risk-
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and final stock price for a butterfly spread using European put option with strike prices of $20,
$25, and $30 and a maturity of one year. Ignore the impact of time a e of money.
2) Suppose that the price of a non-dividend-paying stock is $32, its volatility is 30%, and the risk-free
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Chapter 21 Solutions
Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
Ch. 21 - Prob. 1PSCh. 21 - Option delta a. Can the delta of a call option be...Ch. 21 - Prob. 4PSCh. 21 - Binomial model Over the coming year, Ragworts...Ch. 21 - BlackScholes model Use the BlackScholes formula to...Ch. 21 - Option risk A call option is always riskier than...Ch. 21 - Prob. 8PSCh. 21 - Prob. 9PSCh. 21 - Binomial model Suppose a stock price can go up by...Ch. 21 - American options The price of Moria Mining stock...
Ch. 21 - Prob. 12PSCh. 21 - American options Suppose that you own an American...Ch. 21 - Prob. 14PSCh. 21 - Prob. 15PSCh. 21 - American options The current price of the stock of...Ch. 21 - Option delta Suppose you construct an option hedge...Ch. 21 - Prob. 19PSCh. 21 - American options Other things equal, which of...Ch. 21 - Option exercise Is it better to exercise a call...Ch. 21 - Prob. 22PSCh. 21 - Option delta Use the put-call parity formula (see...Ch. 21 - Option delta Show how the option delta changes as...Ch. 21 - Dividends Your company has just awarded you a...Ch. 21 - Prob. 27PSCh. 21 - Prob. 28PSCh. 21 - Prob. 29PS
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