Question

The stock of DT Corp was trading at $21 per share when BW Inc. announced a deal to buy DT Corp for $28 per share.

On the news, shares of DT moved up to $27 per share.

However, deal might fall through due to regulatory concerns. If the EMV of buying the stock at $27 is zero, what is the probability that the deal will go through at $28 per share? [Assume that if the deal is blocked, the stock of DT Corp. will go back down to $21]

Answer 1

Let p be the probability that the deal will not go through at 28 per share

Hence,
27=p*21+(1-p)*28
=>p=(27-28)/(21-28)
=>p=0.142857143

The probability that the deal will go through=1-p=1-0.142857143=0.857142857