Mock test

AMITAG1990
Finance Junkie
Posts: 89
Joined: Sat Sep 22, 2012 12:35 pm

Mock test

Postby AMITAG1990 » Thu Nov 08, 2012 6:12 pm

The current price of XYZ holdings Pvt. Ltd is $50. The annual standard deviation is 18%. The continuously compounded risk-free rate is 9.5% per year. Assume XYZ pays no dividends. Compute the value of a 1-year European call option with a strike price of $50 using a one period binomial model.
Choose one answer.
a. $ 5.5
b. $ 6
c. $ 7
d. $ 8
Please solve this.. i am getting 7. but it is 8

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madhuri1682
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Posts: 29
Joined: Thu Oct 04, 2012 2:09 am

Re: Mock test

Postby madhuri1682 » Thu Nov 08, 2012 9:50 pm

The up factor is U=e^sd*sqrt(t)=1.19
D=1/U=.84
Therefore, price at up node=59.5 and at down node= 42.
The call will be worth when price is 59.5
Value of call = (59.5-50)e^(-0.095*1)=8

AMITAG1990
Finance Junkie
Posts: 89
Joined: Sat Sep 22, 2012 12:35 pm

Re: Mock test

Postby AMITAG1990 » Fri Nov 09, 2012 12:30 pm

but 9.5 should also be multiplied with the upside probability.?? which make it something 7.2.. please make this clear.. whether i am right or not..??

swarnendupathak
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Posts: 119
Joined: Mon Sep 17, 2012 11:06 am

Re: Mock test

Postby swarnendupathak » Fri Nov 09, 2012 1:45 pm

What madhuri has mentioned is correct..but if u consider figure without rounding off the final figure will come Rs. 6.55.
U = 1.197217
D = 0.83527
P(up) = 0.730462
P(Down) = 0.269538, gives the result of 6.55.

But i don't understand why to multply 9.5 with upside probability???

Swarnendu

AMITAG1990
Finance Junkie
Posts: 89
Joined: Sat Sep 22, 2012 12:35 pm

Re: Mock test

Postby AMITAG1990 » Fri Nov 09, 2012 2:08 pm

thats right Swarnendu, what u r doing i am also doing same.. i am also getting ans 7 but madhuri is saying 8

9.5*0.758*e^-(.095)= 6.55


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