You own one call option with an exercise price of $55 on Doo Little stock. The stock is currently selling for $55.20 a share but is expected to sell for either $54 or $62 a share in one year. The risk-
Free rate of return is 3 percent and the inﬂation rate is 2.5 percent. What is the current option price
If the option expires one year from now?
A) $0.55
B) $0.79
C) $1.67
D) $2.43
E) $2.72

Question

Quizplus · Accepted Answer

We can use the Black-Scholes option pricing model to calculate the current option price. Plugging in the given values, we get:

d1 = [ln(55.20/55) + (0.03 + 0.025 + 0.5*0.2^2)] / (0.2*sqrt(1)) = 0.5203
d2 = d1 - 0.2*sqrt(1) = 0.3203
N(d1) = 0.6980
N(d2) = 0.3745

Option price = 55*0.6980 - 55.20*0.3745*e^(-0.03*1) = $2.43

Therefore, the best choice is D.

You Own One Call Option with an Exercise Price of $55