Question 1

The current market value of the assets of ABC,Inc.is $96 million.The market value of the equity is $43.28 million.What is the market value of the firm's debt?

Accepted Answer

The market value of the firm's debt is calculated by subtracting the market value of the equity from the total market value of the assets: $96 million - $43.28 million = $52.72 million.

Question 2

Suppose you look in the newspaper and see ABC trading at $50 per share.Calls on ABC with one month to expiration and an exercise price of $45 are trading at $6.50 each.Puts on ABC with one month to expiration and an exercise price of $55 are trading at $3.50 each.Are these prices reasonable?
 Explain.(Ignore transactions costs.)

Accepted Answer

The answer of Suppose you look in the newspaper and...

Question 3

You own a call option on Anneco stock that expires in one year.The exercise price is $34.50.The current price of the stock is $36.00 and the risk-free rate of return is 3%.Assume that the option will finish in the money.What is the current value of the call option?

Accepted Answer

The current value of the call option can be found using the following formula:
Value of call option = (Current stock price - Exercise price) / (1 + Risk-free rate) ^ Time to expiration
Time to expiration = 1 year
Plugging in the values, we get:
Value of call option = (36.00 - 34.50) / (1 + 0.03) ^ 1
Value of call option = 1.50 / 1.03
Value of call option = 1.4563
Rounding to the nearest cent, the current value of the call option is $2.50, which is option B.

Question 4

Distinguish the difference between American and European options.All else equal,which has more value?

Accepted Answer

The answer of Distinguish the difference between American and European...

Question 5

Three weeks ago,you purchased a July 50 put option on BDR stock at an option price of $2.80.The market price of BDR stock three weeks ago was $48.22.Today,BDR stock is selling at $49.65 a share and the July 50 put is priced at $0.60.What is the intrinsic value of your put contract?

Accepted Answer

The intrinsic value of a put option is equal to the strike price minus the market price of the underlying stock. In this case, the strike price is $50 and the market price of the stock is $49.65, so the intrinsic value is $0.35. However, since the option price is only $0.60, the total value of the option is $0.60 (the extrinsic value) plus $0.35 (the intrinsic value), which equals $0.95. Therefore, the option has a positive value of $0.95-$2.80=-$1.85, but the intrinsic value is still D)$35.

Question 6

Suppose XYZ is priced at $125 a share,has a call with an exercise price of $150 and two months to expiration that costs $0.125 per contract.Why do you suppose investors would be willing to purchase a call that is so far out of the money?

Accepted Answer

The answer of Suppose XYZ is priced at $125 a...

Question 7

Suppose your wealthy Aunt Minnie has asked you to manage her large stock portfolio.You would like to buy and/or sell options on many of the stocks she owns.Describe the types of options you would buy or sell,as well as your rationale,given the following circumstances:
a.Aunt Minnie owns 10,000 shares of IBM common stock.You believe it is going to fall in price,but she won't let you sell it because her late husband told her never to let it go.How do you protect her from the impending price decline?
b.Your analysis suggests that the common stock of Jet-Electro is poised to increase in value sharply over the next year.Aunt Minnie doesn't want to buy any of the stock,but does want you to use options to profit if the price rises.What do you do?
c.Although Aunt Minnie doesn't want you to sell any of the stocks she owns,she would like you to use options to generate a little extra income.How might you do this?

Accepted Answer

The answer of Suppose your wealthy Aunt Minnie has asked...

Question 8

What are the upper and lower bounds for an American call option?
 Explain what would happen in each case if the bound was violated.

Accepted Answer

The answer of What are the upper and lower bounds...

Question 9

Explain the rationale behind the statement that equity is a call option on the firm's assets.When would a shareholder allow the call to expire?

Accepted Answer

The answer of Explain the rationale behind the statement that...

Question 10

You own six put option contracts on HOL stock with an exercise price of $30.What is the total intrinsic value of these contracts if HOL stock is currently selling for $26.00 a share?

Accepted Answer

The intrinsic value of a put option is calculated as the exercise price minus the current stock price, multiplied by the number of shares per contract. Here, the intrinsic value per contract is ($30 - $26) * 100 = $400. For six contracts, the total intrinsic value is $400 * 6 = $2,400.

Question 11

Last week,you purchased a call option on Collins,Inc.stock at an option price of $1.05.The stock price last week was $29.00.The strike price is $28.20.What is the intrinsic value per share if Collins,Inc.stock is currently priced at $29.65?

Accepted Answer

The answer of Last week,you purchased a call option on...

Quiz 17: Options and Corporate Finance