Assignment 2 (assessment worth 15%) Due Date 24 May at 5pm GMT+8 [Submission will be strictly observed. Make...

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Finance

Assignment 2 (assessment worth15%)
Due Date 24 May at 5pm GMT+8
[Submission will be strictly observed. Make submissionvia Turnitin]
Question 1
Assume Alpha Ltd is currently trading on the NYSE with a stockprice of $65. The American one-year call option on the stock istrading at $20 with strike price of $65. If the one-year rate ofinterest is 10% p.a. (continuously compounding), is the call pricefree from arbitrage or is it too cheap/expensive, assuming that thestock pays no dividends? What if the stock pays a dividend of $5 inone year?
Question 2
The current price of a non-dividend paying stock is $35. Use atwo-step tree to value an American put option on the stock with astrike price of $33 that expires in 12 months. Each step is 6months, the risk free rate is 6% per annum (continuouslycompounding), and the volatility is 15%. What is the option price?Show work in detail and use a tree diagram (Use 4 decimal places).
Question 3
Two firms X and Y are able to borrow funds as follows:
Firm A: Fixed-rate funding at 3.5% and floating rate atLibor-1%.
Firm B: Fixed-rate funding at 4.5% and floating rate atLibor+2%.
Assume A prefers fixed rate and B prefers floating rate. Showhow these two firms can both obtain cheaper financing using a swap.What swap strategy would you suggest to the two firms if you werean unbiased advisor? What is the net cost to each party in theswap? Show your work in detail.
The Questions are not related to each other all of themare separate questions

Answer & Explanation Solved by verified expert

3.7 Ratings (649 Votes)

Answer 1There are various ways to calculate the price of a call optionviz putcall parity binomial interest rate tree black scholesmodel intrinsic value time value of money modelThe formula for these is as belowPUT CALL PARITY We do not have the value of Put premium to use this formulaBinomial Interest rate tree we do not have volatility risk free rate to use this formulaBlack Scholes model we do not have risk free rate to use thisformula The question See Answer

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Assignment 2 (assessment worth15%)Due Date 24 May at 5pm GMT+8[Submission will be strictly observed. Make submissionvia Turnitin]Question 1Assume Alpha Ltd is currently trading on the NYSE with a stockprice of $65. The American one-year call option on the stock istrading at $20 with strike price of $65. If the one-year rate ofinterest is 10% p.a. (continuously compounding), is the call pricefree from arbitrage or is it too cheap/expensive, assuming that thestock pays no dividends? What if the stock pays a dividend of $5 inone year? Question 2The current price of a non-dividend paying stock is $35. Use atwo-step tree to value an American put option on the stock with astrike price of $33 that expires in 12 months. Each step is 6months, the risk free rate is 6% per annum (continuouslycompounding), and the volatility is 15%. What is the option price?Show work in detail and use a tree diagram (Use 4 decimal places).Question 3Two firms X and Y are able to borrow funds as follows:Firm A: Fixed-rate funding at 3.5% and floating rate atLibor-1%.Firm B: Fixed-rate funding at 4.5% and floating rate atLibor+2%.Assume A prefers fixed rate and B prefers floating rate. Showhow these two firms can both obtain cheaper financing using a swap.What swap strategy would you suggest to the two firms if you werean unbiased advisor? What is the net cost to each party in theswap? Show your work in detail. The Questions are not related to each other all of themare separate questions