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Assignment 1
Due Date is 2 October 2009. Please put your assignment in the assignment box opposite to
the General Office of the Department of Mathematics (Rm 220, LSB) before 5 p.m.. The
solution will be uploaded at 6 p.m. So no late assignments will be accepted.
In this assignment, assume all interest rate is 0%. Please give your answers within 2 decimal
places whenever necessary.
1. The following figure shows the net profit that a trader can get by investing one Euro-
pean option.
20
Profit($)
15
10
0
S(T )
−5
−10
−15
−20
0 10 20 30 40 50 60
2. A trader sells a call option with a strike price of $35 and sells a put option with a
strike price of $30. Both options have the same maturity. The call costs $3 and the
3. A European call option and a put option on a stock both have a strike price of $40
and an expiration date in 3 months. The call price is $3 and the put price is $1. The
current stock price is $41. Identify the arbitrage opportunity open to a trader.
4. Draw the expiry payoff diagrams for each of the following portfolios(in each case all
the options have the same maturity date):
(a) short one share of stock and short one put with strike price E
(b) long one call and long two puts with strike price E
(c) long one put with strike price E − 1, long one put with strike price E + 1 and
short two puts with strike price E.
5. Suppose that c1 , c2 , c3 and c4 are the prices of European call options with strike prices
E1 , E2 , E3 and E4 , respectively, where 0 < E1 < E2 < E3 < E4 and E2 −E1 = E4 −E3 .
All options have the same maturity. Show that c2 + c3 ≤ c1 + c4 .
7. Two clips of webpage are attached. They show the information of its underlying asset
(Figure 1) and some warrants (Figure 2) . In the row 1 and the row 2 of Figure 2, the
code of the warrants are given as 12PW09 and 12CW09 respectively, it means these
are the warrants (PW/CW) that will expire in December 2009. Column 9 and 11 of
Figure 2 are the premium and the gearing ratio respectively. (Use the latest stock
price and warrant price in the following calculations.)
(a) What are the formulae of the premium of a put warrant, the premium of a call
warrant and the gearing ratio? You may find the definitions from the internet.
Define all the variables clearly.
(b) Compute the premium of the put warrant(12PW09), the premium of a call war-
rant(12CW09) and the corresponding gearing ratio of the two warrants according
to the definitions you found. Compare the results with the values on the webpage.