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International Finance: Options, Parity conditions

1. A call option exists on British pounds with an exercise price of $1.60, a 90-day expiration date, and a premium of $.03 per unit. A put option exists on British pounds with an exercise price of $1.60, a 90-day expiration date, and a premium of $.02 per unit. You plan to purchase options to cover your future receivables of 700,000 pounds in 90 days. You will exercise the option in 90 days (if at all). You expect the spot rate of the pound to be $1.57 in 90 days. Determine the amount of dollars to be received, after deducting payment for the option premium.
Choices:
a) $1,169,000.
b) $1,099,000.
c) $1,106,000.
d) $1,143,100.
e) $1,134,000.

2. Assume the following information:

U.S. investors have $1,000,000 to invest
1-year deposit rate offered on U.S. dollars = 12%
1-year deposit rate offered on Singapore dollars = 10%
1-year forward rate of Singapore dollars = $.412
Spot rate of Singapore dollar = $.400

Given this information:
a) interest rate parity exists and covered interest arbitrage by U.S. investors results in the same yield as investing domestically.
b) interest rate parity doesn't exist and covered interest arbitrage by U.S. investors results in a yield above what is possible domestically.
c) interest rate parity exists and covered interest arbitrage by U.S. investors results in a yield above what is possible domestically.
d) interest rate parity doesn't exist and covered interest arbitrage by U.S. investors results in a yield below what is possible domestically

Solution Preview

1. A call option exists on British pounds with an exercise price of $1.60, a 90-day expiration date, and a premium of $.03 per unit. A put option exists on British pounds with an exercise price of $1.60, a 90-day expiration date, and a premium of $.02 per unit. You plan to purchase options to cover your future receivables of 700,000 pounds in 90 days. You will exercise the option in 90 days (if at all). You expect the spot rate of the pound to be $1.57 in 90 days. Determine the amount of dollars to be received, after deducting payment for the option premium.

Choices:
a) $1,169,000.
b) $1,099,000.
c) $1,106,000.
d) $1,143,100.
e) $1,134,000.

Answer: c) $1,106,000.

Exercise price of put option= $1.60

You purchase the put option because you intend to sell the pounds

You will exercise the put option if the spot price after 90days is below the exercise price

Here the spot price is $1.53 which is ...

Solution Summary

Answers 2 multiple choice questions on International Finance dealing with Options, Parity conditions.

$2.19