Jane owns 1000 shares of ABC that she purchased 93 days ago for $51.23/share. It has fallen slightly and is currently trading at $44.69/share. The current risk-free rate is 2.1%.

Jane purchased 1000 put options on ABC last week as insurance. Each put option gives her the right to sell one share of ABC stock for $40/share. The options have one year to maturity and cost $5.39 each, and they cannot be exercised early. Draw the gross payoff diagram for your portfolio of ABC stock and ABC put options at the maturity of your options. Make sure the graph is clearly labeled.

Is the expected return on Jane's portfolio higher or lower than the expected return on ABC stock? The expected return on ABC stock according to the CAPM is 10.1%. Explain completely. Hint: Think about how your portfolio is constructed.

Jane's friend, who is very bullish on ABC stock, just purchased 1000 calls on ABC with a strike price of 40. Is her portfolio more or less risky than Jane's portfolio (as graphed in A)? Explain completely.

Answer rating: 100% (QA)

ANSWER To begin with lets calculate Janes current position in ABC stock She owns 1000 shares of ABC stock which she purchased 93 days ago for 5123share The current market price of ABC stock is 4469sha... View the full answer