Exam 16: Time, Risk and Options

Assume that A and B are two events in the sample space such that Pr[A/B] is 2/3, Pr[B] is 1/4, and Pr[A] is 1/6.Applying the Bayesian reasoning calculate the probability Pr[B/A].

How is the writer of an option affected by changes in its stock price?

Assume that Jane has limited wealth to invest in two assets both of which promise her returns worth $3,000 after two years.The first is a bank deposit assuring an interest of 10 percent per annum and the second is a private bond with an interest rate of 8 percent per annum.Which of the two would require a low initial investment and of what amount?

According to the Black-Scholes formula:

Assume that a lender had lent $2,500 at the rate of 12 percent per annum for a year, expecting an inflation rate of 3 percent.However, at the end of the year rate of inflation increased to 5 percent.The purchasing power of the lender:

If events A and B are independent, then Pr[A and B] will be:

A(n) _____ is a set of equal annual payments received by an investor from the investment.

When do financial options prove to be beneficial?

Suppose Annie expects an annual return of $520 from an investment worth $500.What should be the rate of interest charged by her to a risky borrower who is likely to repay the principal and interest with a probability of 0.7?

Suppose Player X's probability of winning a gamble is 0.8 while that of Player Y is 0.5.Which of the two will be willing to pay for a test and why?

Derive the Black-Scholes formula to represent the relationship between the price of an option and the price of its underlying stock.

Which of the following alternatives signify the difference between the present value of a $150 perpetuity and 2-year $150 annuity, both discounted at 15 percent per annum.

Mention some applications of real options.