Question

The common stock of the P.U.T.T. Corporation has been trading in a narrow price range for the past month, and you are convinced it is going to break far out of that range in the next 3 months. You do not know whether it will go up or down, however. The current price of the stock is $135 per share, and the price of a 3-month call option at an exercise price of $135 is $10.45. a. If the risk-free interest rate is 9% per year, what must be the price of a 3-month put option on P.U.T.T. stock at an exercise price of $135? (The stock pays no dividends.) (Do not round intermediate calculations. Round your answer to 2 decimal places.) b. A straddle would be a simple options strategy to exploit your conviction about the stock price’s future movements. How far would it have to move in either direction for you to make a profit on your initial investment? (Round your intermediate calculations and final answer to 2 decimal places.)

Answer 1

a)	Put call parity equation
	Call premium(CE) +present value of strike price(K/(1+r)^t]   =    Stock price(s0)+put premium(PE)
	Present value of strike price				=	K/(e^rate*time
					=	$135/e^0.09*3/12
					=	$135/e^0.225
					=	$135/1.02275503
					=	$     132.00
	as per callput parity equation
		$10.45+$132			=	$135+Put premium
		$10.45+$132-$135			=	Put premium
		$                            7.45			=	Put premium
b)	Breakeven price for stradle				=	Strike price - cost of straddle or Strike price +cost of straddle
		Cost of straddle			=	$10.45+$7.45
					=	$        17.90
	Breakeven price for stradle				=	$135-$17.9 or $135+17.9
					=	$117.1 or $152.9
	A straddle is stratedgy in which a call option is purchases simultaneously along with put option
	If the price is above $152.9 or below $117.1,we will recover our straddle cost and make profit
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