MATH 534 Midterm: MATH 537 UMass Amherst midtermF16soln
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Instructions: show all your work for full credit, and box your answers when appropriate. Unless otherwise noted, the risk free rate is per annum with continuous compounding and stocks do not pay dividends: the risk-free rate is 5%. A one-year 600-strike european call on google (goog) prices for 50. A one-year 700-strike european call on goog prices for 25. Consider a bear spread made of these two calls. Receive 50 25 = 25 at t = 0. Payo is max(s1 600, 0) + max(s1 700, 0) which has a max of 0 (see graph). So max pro t at t = 1 is 0 + 25e0. 05 = 26. 28. Note: watch out for time value of money: the risk-free rate is 5%. The spot price of microsoft (msft) is . Describe an arbitrage opportunity and compute (the present value of) its pro t.
