a) The finance literature has found that options that are deep out-of-the-money (i.e., the underlying asset's price would need to change a lot for the option to have a positive payoff) are "overpriced" and earn low average returns. Suggest an explanation for this finding.

b) Assume that two companies, and , are newly included in the stock market index on the same day. Furthermore, assume that company 's stock has several close substitutes while company 's stock doesn't. What is likely to happen to the prices of the two stocks?

c) How could a model with anticipatory utility explain the sign effect?

Answer rating: 100% (QA)

a The finding that deep outofthemoney options are overpriced and earn low average returns could be explained by investor behavior and market dynamics ... View the full answer