A stock is currently priced at $52.50 a share. One year from now, the stock price is expected to be either $54 or $60 a share. The risk-free rate of return is 4 percent. What is the value of a 1-year call option with an exercise price of $55

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Business

Nelson Mendez

13 September, 02:52

A stock is currently priced at $52.50 a share. One year from now, the stock price is expected to be either $54 or $60 a share. The risk-free rate of return is 4 percent. What is the value of a 1-year call option with an exercise price of $55

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Troy Bolton · Answer 1

Value of 1-Year option=$0.48

Explanation:

First, we have to calculate the present value of share being priced at $54 after one year, which shall be calculated as follow:

Present value of share=54 (1+4%) ^-1

=$51.92

Now we have to calculate the number of options which will be required to exercise for one share:

Number of options = (60-54) / (5-0) = 1.2

Finally, we have to calculate the value of 1-year call options which shall be calculated as follow:

Current price of share=Number of options required for one share*Value of 1-year option+Present value of share

52.50=1.2*value of 1-Year option+51.92

1.2*value of 1-Year option=0.58

Value of 1-Year option=$0.48