Question

1. EXPLAIN THE PRODUCTIVE PUT OPTION STRATERGY IS. AND THE PURPOSE OF ENTERING INTO SUCH A STRATERGY.

NIMAL BUYS 100 SHARES OF JW STOCKS FOR RS.87 PER SHARE AND THREE MONTHS EXPIRATION JW PUT OPTIONS WITH AN EXERCISE PRICE OF RS.105 FOR RS.20 EACH. WHAT IS THE RUPEE GAIN /LOSS IF AT OPTION EXIRATION THE STOCK IS SELLING FOR RS.80 PER SHARE? SHOW YOUR CALCULATIONS.

2.

The annualised monthly excess returns of the ASPI market index returns (r_m-r_f), were regressed against the corresponding excess returns of the two stocks, Black and White (r_i-r_f) over a five year period in two ‘Market model’ regression models, using Ordinary Least Squares (OLS). The following results were obtained:

   Black               White

Intercept on y- axis -3.68%             13.96%

Slope coefficient 0.69                 0.97

Regression R-square 0.35                 0.22

Std. deviation of regression residuals 13.02%            21.45%

Carefully interpret and explain what each of the regression results mean

Answer 1

1. Protective put option strategy combines the long position in an asset with the long position in put option on the asset. This protects the asset value in the sense that a minimum asset value is guaranteed during the validity of the put option

Total cost to Nimal = 100 shares *Rs. 87 + 100 put options (105 strike) * Rs.20 = 8700+2000 = Rs. 10700

At the expiry . stock is selling for Rs.80 which is less than the Strike price, so Put option will be exercised and the stock shall be sold at Rs.105

Value to Nimal = 100* 105 = Rs.10500

Total Rupee profit = Rs.10500 - Rs.10700 = -Rs.200

So, there is a total loss of Rs.200 to Nimal