Zero Cost Collars and Underlying Assets
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Using the option prices given below, give an example of a zero cost collar and explain how it could be used to hedge a long position in the underlying asset. You may assume the underlying asset is an equity currently at $100.
Maturity Strike Calls Puts
======================================
3 Month 90 12.0 1.0
95 8.5 3.0
100 5.5 4.5
105 3.0 7.0
110 2.0 10.0
Please kindly include any assumptions, formulas, detailed steps while providing the solution.
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A zero cost collars and underlying assets are provided in the solution.
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Maturity Strike Calls Puts
======================================
3 Month 90 12.0 1.0
95 8.5 3.0
100 5.5 4.5
105 3.0 7.0
110 2.0 10.0
Let's begin with the definition. What is a zero cost collar?
A collar is created by an investor when he
-Long the ...
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