Option question currently, question, option, thinks, price

ShooterMcCFA

An analyst is evaluating a European call option with a strike price of 25 and 219 days to expiration. The underlying stock is currently trading for $29, and the analyst thinks that by the option expiration date the stock will be valued at $35. If the risk-free rate is 4.0%. what is the lower bound on the value of this option?

A $0
B $4.00
C $4.58

JRossSter

Is the answer C?

mnieman

kurupt, options are always valued more than zero or otherwise they can't be sold. But the pay off's may be zero or negative all the time.

Unless the markets see intrinsic value or time value, options cannot be priced. If they are not readily in the money, they have atleast time value -- hope that the price of the underlying rises before the option expires.

hth

sgupta0827

of course, minimum value of the option anytime (any spot, any rates, any vol) during the life can theoretically go to zero. the value of the option at given time, given spot, given rate has lower bound equal to ... you know...

btcapital

I stand corrected.... I got confused between 'lower bound' and percieved value of an option.

Lower bound = Max(0, underlying-PV of strike rate@rfr)

In this case, it is in the money so the lower bound CANNOT be zero.

kamara5

can somebody show me how to get 4.58 in terms of calculation?

Thanks

kasinkei

I'm wondering the same thing. When I took $4 at the 4% over 219 days, I only got $4.10. Confused.

studyn

Its a European option:

29 - (25/(1.04^(219/365) = 4.58

UGhhh

Shortcut: European lower bound must be = or > the American lower bound. If this were american, it would already be worth $4 plus the time value portion, so must be > $4. the european must at least equal the american, so the number >$4 is the only correct choice.



Edited 1 time(s). Last edit at Friday, June 5, 2009 at 02:44PM by june2009.

amqata

Min European = max (0, S- (X/((1+rf)^.6)))

219/365=.6

X=Strike Price
S=Stock Price

This gets you 4.58

cyber21

june, please excuse my ignorance. Would my calculation of $4.10 have been correct for an American option?