# Real Options Case

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Real options analysis, Spring 2014 Deadline: March 17, 3:30pm, submit your solution via e‐mail to sspinler@whu.edu Filename convention: <last name>.xls 1. Determine the price for a European call by means of the Black – Scholes equation: S_0 = €118, X = €134, T = 1 year, r= 7%, σ= 40%. 2. How does the price in (1) change if, ceteris paribus, a. X increases b. T increases c. r increases d. σ increases. Draw a chart for (a) to (d). 3. For the same values given in (1), determine the option value using the binomial lattice approach with Δt = 1/2 and Δt = 1/12. Explain the difference. 4. Suppose there is a continuous annual dividend yield of 5.5%. What is, for the same values as in (1), the value of a European and an American call? Use the binomial lattice approach with Δt = 1/12. 5. What is, for the same values as in (1), the minimum dividend yield such that early exercise of an American call becomes profitable? Use the binomial lattice approach with Δt = 1/12. 6. Consider a European call option whose payoff at expiration is capped by the amount B, that is, the payoff is MIN [MAX[S(T)‐X,0],B]. a. Draw a chart of the payoff as a function of S(T). b. Derive the price of such an option for B=€75, all other values as in (1) using the binomial lattice approach with Δt = 1/12. c. How could you derive the option price using the Black‐Scholes formula? Compute its value for B=€75. d. Draw a chart that shows the option value as a function of B for B=0 to B=150. e. Plot the intrinsic and the time value of this option as a function of the underlying value S(t).…...

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