ABC will enter into a highly volatile period in the next 3 months. ABCs current stock price is $100. The European at-the-money options on ABC stock are traded with an implied volatility of 50% per annum.

1. You decide to take a directional bet on the volatility by taking a straddle strategy with the 3- month at-the-money options. The current risk free rate is 0.25%.

What is your position in the straddle?

What is the premium associated with the strategy according to Black-Scholes- Merton model?

2. If you believe that the true volatility is 60%, Will you buy or sell the 3-month at-the-money call options?

What is the profit of the delta-neutral portfolio comprising positions in 1000 calls and shares if your volatility estimate turns out to be right?

What are the risks of your delta-neutral strategy?