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Ex9 2025

The document outlines exercises related to fixed income and credit risk, focusing on the pricing of European call and put options using the Black-Scholes formula. It includes problems involving continuous compounded interest rates, dividend-paying stocks, and power options, requiring calculations of option prices and deltas. Additionally, it emphasizes the application of stochastic differential equations in deriving option prices.

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9 views1 page

Ex9 2025

The document outlines exercises related to fixed income and credit risk, focusing on the pricing of European call and put options using the Black-Scholes formula. It includes problems involving continuous compounded interest rates, dividend-paying stocks, and power options, requiring calculations of option prices and deltas. Additionally, it emphasizes the application of stochastic differential equations in deriving option prices.

Uploaded by

TEMIM
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Exercise Session 9

Fixed Income and Credit Risk

Problem 1.

1. Continuous compounded interest rates are supposed to be flat at 3%. The volatility of an asset is 16%. The
current price of a stock is S0 = 137. Determine the price of at-the-money european call and put options.
The maturity is in 3 months. At the at-the-money options means that K equals the current futures price
K = St er(T −t) . For this purpose, you may adapt the Excel spreasheed with an implementation of the Black-
Scholes formula.

2. Consider a plain vanilla at-the-money call option on a stock that doesn’t pay dividend. Assume that interest
rates are as above and same for the maturity. Compute the value of the call option delta.

3. A stock is supposed to pay continuous dividend ratio of 4% annualized. Determine the call and put prices. To
get the expression of the call and put formula of a divident paying asset you may remember that the forward
price (same as futures price) of a dividend paying stock with continous annualized payout rate γ) satisfies
Ft,T = St exp((r − γ)(T − t)). Starting from Black’s formula establish the formula for a dividend paying asset.

4. Provide the values of the Black Scholes prices of the call and put numerically (i.e. in Excel).

Problem 2. The dynamics of a given asset is supposed to satisfy dSt = µSt dt + σSt dWt . A risk free account
satisfies dBt = rBt dt. The aim of the following problem is to obtain the price at time t of an option with payoff
ST2 − K if ST2 > K and 0 otherwise. We will denote the price of such an option by C. Options where the underlying
is taken to some power are called power options. If an option gives the right to exchange a power of underlying
against a fixed price then the option is a call. Otherwise it is a put option.

1. Show that C(St , t) is a solution to the FPDE for a well chosen dynamics of St (the dynamics of St is given
by the Stochastic Differential Equation
dSt = adt + bdWt

where you are asked to specify the values of a and b).

2. Obtain the option price C(St , t). To do so, it is not necessary to redo all the algebraic computations. Proceed
by analogy with the slides.

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