Deck 11: Binomial Option Pricing: Selected Topics

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Question
Consider a one-period binomial model of 6 months.Assume the stock price is $45.00,?σ = 0.20,r = 0.06 and the stock's expected return is 12.0%.What is the discount rate for a ?$45.00 strike European call option (Y)?

A) 38.2%
B) 39.1%
C) 42.5%
D) 45.6%
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Question
Consider a one-period binomial model of 12 months.Assume the stock price is $54.00,?σ = 0.25,r = 0.04 and the exercise price of a call option is $55.What is the forecasted price of the stock given an upward movement during the year?

A) $56.16
B) $61.01
C) $65.12
D) $72.16
Question
Consider a one-period binomial model of 6 months.Assume the stock price is $63.00,?σ = 0.28,r = 0.05 and the stock's expected return is 14.0%.What is the true probability of the stock going up?

A) 56.6%
B) 52.4%
C) 48.2%
D) 46.4%
Question
Under what circumstances should an option be exercised early?
Question
Why is an American call option rarely exercised early,and thus priced similar to European options?

A) Early exercise requires purchasing the stock
B) Most option sellers cannot deliver the stock
C) Option prices usually exceed intrinsic values
D) Short sellers disrupt delivery
Question
What is the relationship between dividends and the forecasted stock price in a binomial model?
Question
Using a binomial pricing model,what is the impact on the price of a call option if the company increases the dividend paid to shareholders? The call option price:

A) Will drop
B) Will increase
C) Will remain constant
D) Impact cannot be determined
Question
Ask the class to prove that option pricing is consistent with standard discounted cash flow calculations.Propose that students form groups and develop two binomial trees for the same set of data.One tree should use real probabilities as defined in chapter 11 and the other as defined in chapter 10.
Question
A stock price is $85.00.Assume r = 0.07 and there is no dividend.What is the 6-month forward price?

A) $88.03
B) $89.16
C) $90.26
D) $92.33
Question
When developing a binomial tree model where stocks pay discrete dividends,what problem may occur?
Question
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $46.00,σ = 0.28,r = 0.06 and the dividend yield is 2.0%.What is the maximum approximate strike price where early exercise would occur with an American call option?

A) $29
B) $33
C) $42
D) $46
Question
In a binomial pricing model,what is the lowest price of an option at any node and why?
Question
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $75.00,σ = 0.35,and r = 0.05.An American call option with a strike price of $80 would be exercised early at what dividend yield?

A) 5.0%
B) 7.0%
C) 9.0%
D) Never exercise early
Question
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $60.00,σ = 0.30,r = 0.05.An American put option with a strike price of $65 would be exercised early at what dividend yield?

A) 5.0%
B) 6.0%
C) 11.0%
D) Never exercised early
Question
Consider a three-period binomial model of 12 months.Assume the stock price is $37.50,?σ = 0.20,r = 0.05 and the exercise price of a call option is $35.What is the forecasted price of the stock at the node after two consecutive upward movements of the stock price?

A) $38.68
B) $42.80
C) $48.84
D) $50.06
Question
What is the primary potential for error when using the Cox-Ross-Rubenstein binomial tree?
Question
What economic concept is central to proving that risk neutral pricing functions in the establishing of option prices?

A) Consumption possibilities
B) Factor analysis
C) Marginal average cost
D) Declining marginal utility
Question
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $50.00,σ = 0.20,r = 0.06 and the dividend yield = 3.5%.What is the lowest strike price where early exercise would occur with an American put option?

A) $50
B) $55
C) $60
D) $65
Question
Consider a one-period binomial model of 12 months.Assume the stock price is $54.00,?σ = 0.25,r = 0.04 and the exercise price of a call option is $55.What is the forecasted price of the stock given a downward movement during the year?

A) $43.77
B) $ 45.28
C) $48.98
D) $51.84
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Deck 11: Binomial Option Pricing: Selected Topics
1
Consider a one-period binomial model of 6 months.Assume the stock price is $45.00,?σ = 0.20,r = 0.06 and the stock's expected return is 12.0%.What is the discount rate for a ?$45.00 strike European call option (Y)?

A) 38.2%
B) 39.1%
C) 42.5%
D) 45.6%
B
2
Consider a one-period binomial model of 12 months.Assume the stock price is $54.00,?σ = 0.25,r = 0.04 and the exercise price of a call option is $55.What is the forecasted price of the stock given an upward movement during the year?

A) $56.16
B) $61.01
C) $65.12
D) $72.16
D
3
Consider a one-period binomial model of 6 months.Assume the stock price is $63.00,?σ = 0.28,r = 0.05 and the stock's expected return is 14.0%.What is the true probability of the stock going up?

A) 56.6%
B) 52.4%
C) 48.2%
D) 46.4%
A
4
Under what circumstances should an option be exercised early?
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5
Why is an American call option rarely exercised early,and thus priced similar to European options?

A) Early exercise requires purchasing the stock
B) Most option sellers cannot deliver the stock
C) Option prices usually exceed intrinsic values
D) Short sellers disrupt delivery
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6
What is the relationship between dividends and the forecasted stock price in a binomial model?
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7
Using a binomial pricing model,what is the impact on the price of a call option if the company increases the dividend paid to shareholders? The call option price:

A) Will drop
B) Will increase
C) Will remain constant
D) Impact cannot be determined
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8
Ask the class to prove that option pricing is consistent with standard discounted cash flow calculations.Propose that students form groups and develop two binomial trees for the same set of data.One tree should use real probabilities as defined in chapter 11 and the other as defined in chapter 10.
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Unlock for access to all 19 flashcards in this deck.
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9
A stock price is $85.00.Assume r = 0.07 and there is no dividend.What is the 6-month forward price?

A) $88.03
B) $89.16
C) $90.26
D) $92.33
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10
When developing a binomial tree model where stocks pay discrete dividends,what problem may occur?
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11
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $46.00,σ = 0.28,r = 0.06 and the dividend yield is 2.0%.What is the maximum approximate strike price where early exercise would occur with an American call option?

A) $29
B) $33
C) $42
D) $46
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12
In a binomial pricing model,what is the lowest price of an option at any node and why?
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13
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $75.00,σ = 0.35,and r = 0.05.An American call option with a strike price of $80 would be exercised early at what dividend yield?

A) 5.0%
B) 7.0%
C) 9.0%
D) Never exercise early
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14
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $60.00,σ = 0.30,r = 0.05.An American put option with a strike price of $65 would be exercised early at what dividend yield?

A) 5.0%
B) 6.0%
C) 11.0%
D) Never exercised early
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15
Consider a three-period binomial model of 12 months.Assume the stock price is $37.50,?σ = 0.20,r = 0.05 and the exercise price of a call option is $35.What is the forecasted price of the stock at the node after two consecutive upward movements of the stock price?

A) $38.68
B) $42.80
C) $48.84
D) $50.06
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16
What is the primary potential for error when using the Cox-Ross-Rubenstein binomial tree?
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17
What economic concept is central to proving that risk neutral pricing functions in the establishing of option prices?

A) Consumption possibilities
B) Factor analysis
C) Marginal average cost
D) Declining marginal utility
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Unlock for access to all 19 flashcards in this deck.
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18
Consider a two-period binomial model,where each period is 6 months.Assume the stock price is $50.00,σ = 0.20,r = 0.06 and the dividend yield = 3.5%.What is the lowest strike price where early exercise would occur with an American put option?

A) $50
B) $55
C) $60
D) $65
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19
Consider a one-period binomial model of 12 months.Assume the stock price is $54.00,?σ = 0.25,r = 0.04 and the exercise price of a call option is $55.What is the forecasted price of the stock given a downward movement during the year?

A) $43.77
B) $ 45.28
C) $48.98
D) $51.84
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