Problem 20.2 On Thursday 22rd July 2021 Scholar Education Group had a closing price of 3.54...

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Problem 20.2 On Thursday 22rd July 2021 Scholar Education Group had a closing price of 3.54 Hong Kong Dollars. On Friday 23rd July new rules were announced barring for-profit tutoring in core school subjects, the price dropped to 2.53HKD (a 74% drop). On Monday 26th July Scholar Education Group Stock was trading at 1.38 HKD (an additional 54% price drop). https://www.bloomberg.com/quote/1769:HK Imagine you were working for a bank who had sold put options on Scholar Education Group with a strike price of 3.50 HKD, with expiration on Friday 30th of July. The bank sold the put options using the price suggested by Black-Scholes. They were hedging the option as if the BSM model was an appropriate model of the real world. a) What is the status of your hedge portfolio on Friday after the price drop? b) How would you have reacted to the price drop? c) What was the status of your hedge portfolio on Monday after the second drop? Answer: d) What parts of this trading situation violate the assumptions of the Black-Scholes-Merton model? e) How would you recommend the bank change their pricing and/or hedging arrangements in the future? Problem 20.2 On Thursday 22rd July 2021 Scholar Education Group had a closing price of 3.54 Hong Kong Dollars. On Friday 23rd July new rules were announced barring for-profit tutoring in core school subjects, the price dropped to 2.53HKD (a 74% drop). On Monday 26th July Scholar Education Group Stock was trading at 1.38 HKD (an additional 54% price drop). https://www.bloomberg.com/quote/1769:HK Imagine you were working for a bank who had sold put options on Scholar Education Group with a strike price of 3.50 HKD, with expiration on Friday 30th of July. The bank sold the put options using the price suggested by Black-Scholes. They were hedging the option as if the BSM model was an appropriate model of the real world. a) What is the status of your hedge portfolio on Friday after the price drop? b) How would you have reacted to the price drop? c) What was the status of your hedge portfolio on Monday after the second drop? Answer: d) What parts of this trading situation violate the assumptions of the Black-Scholes-Merton model? e) How would you recommend the bank change their pricing and/or hedging arrangements in the future?