In: Finance
Use the Black-Scholes model to find the price for a call option with the following inputs: (1) current stock price is $30, (2) strike price is $36, (3) time to expiration is 6 months, (4) annualized risk-free rate is 7%, and (5) variance of stock return is 0.16. Do not round intermediate calculations. Round your answer to the nearest cent.
Current stock price, S0 = spot price = $30
Strike Price, K = $36
Time to expiration = 6 months = 0.5 years
risk free rate = 7%
Variance of stock return = 0.16
standard deviation of stock return, σ = Square root of variance = 0.4
The value of a call option, c is given by the formula
Where,
S0 is the current spot price = $30
K is the strike price = $36
N(x) is the cumulative normal distribution function
r is the risk free interest rate = 7%
T is the time to maturity = 0.5 years
σ is the volatility = 0.4
From the above formulas
d1 = -0.379439
d2 = -0.662282
cumulative normal distribution function, N(x) is calculated using NORMDIST function in spreadsheet
NORMDIST (x, mean , standard deviation, cumulative)
Where
x = input to the normal distribution function
mean = mean of normal distribution function = 0
standard deviation = standard deviation of normal distribution function = 1
cumulative = whether to use normal cumulative distribution function rather than distribution function = true
N(d1) = N(-0.379439) = NORMDIST (-0.379439, 0 , 1, true) = 0.352181
N(d2) = N(-0.662282) = NORMDIST (-0.662282, 0 , 1, true) = 0.253895
Implies Value of call option,
c = 1.739570
Price of call option, c = $1.74