ACT 2020, FINAL EXAMINATION - University of Manitoba

ACT 2020, FINAL EXAMINATION ECONOMIC AND FINANCIAL APPLICATIONS

APRIL 16, 2007 9:00AM - 11:00AM

University Centre RM 210- 224 (Seats 285- 329) Instructor: Hal W. Pedersen

You have 120 minutes to complete this examination. When the invigilator instructs you to stop writing you must do so immediately. If you do not abide by this instruction you will be penalised.

Each question is worth 10 points. If the question has multiple parts, the parts are equally weighted unless indicated to the contrary. Provide sufficient reasoning to back up your answer but do not write more than necessary.

This examination consists of.12 questions. Answer each question on a separate page of the exam book. Write your. name and student number on each exam book that you use to answer the questions. Good luck!

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Suppose you desire to short-sell 400 shares of JKI stock, which has a bid price of $25.12 and an ask price of $25.31. You cover the short position 180 days later when the bid price is $22:87 and the ask price is $23.06.

a. Taking into account only the bid and ask prices (ignoring commissions

and interest), what profit did you earn? b. Suppose that there is a 0.3% commission to engage in the short-sale (this

is the commission to sell the stock) and a 0.3% commission to close the short-sale (this is the commission to buy the stock back). How do these commissions change the profit in the previous answer? c. Suppose the 6-month interest ,rate is 3% and that you are paid nothing on the short-sale proceeds. How much interest do you lose during the 6 months in which you have the short position?

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ABC stock has a bid price of $40.95 and an ask price of $41.05. Assume there is a $20 brokerage commission.

3. What amount will you pay to buy 100 shares?

b. What amount will you receive for selling 100 shares?

c. Suppose you buy 100 shares, then immediately sell 100 shares with the bid and ask prices being the same in both cases. What is your round-trip transaction cost?

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An off-market forward contract is a forward where either you have to pay a premium or you receive a premium for entering into the contract. (With a standard forward contract, the premium is zero.) Suppose the effective annual interest rate is 10% and the S&R index is 1000. Consider I-year forward contracts.

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[ 5?0..'1\ Syouuppobseewiylloiungarteo opfafyeretdo eantleorngintfoorwthaisrdfocrwonatrrdactconattra$c1t0?00. What would

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Suppose MNO stock pays no dividends and has a current price of $150. The forward price for delivery in one year is $157.50. Suppose the one-year effective annual interest rate is 5%.

(a) pGrriacpehofth$e 1p5a7y.5o0ff. and profit diagrams for a short forward contract on MNO stock with a forward

(b) Is there any advantage to short selling th~ stock or selling the forward contract? (c) aSduvpapnotsaegeMtNo Oselpliai1idg athdeivfiodrewnadrdofco$n3trpacetr?year and everything else stayed the same. Is there any

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assume the effective 6-month interest rate is 2%, the S&R

6-monthfonvard price is $1020. and use these premiumsfor S&R options with 6 months

to expiration:

Strike $950 1000 1020 1050 1107

Call $120.405

93.809 84.470 71.802 51.873

Put

$51.777 74.201 84.470 101.214 137.167

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Suppose the premium on a 6-month S&R call is $109.20 and the premium on a

put with the same strike price is $60.18. What is the strike price?

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Suppose you invest in the S&R index for $1000, buy a 950-strike put, and sell a

1100-strike call. Draw a profit diagram for this position.

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Suppose that firms face a 40% im:ome tax rate on all profits. In particular, losses receive full credit. Firm A has a 50% probability of a $1000 profit and a 50%

probability- of ;-$600 losseach-year.--PfrmuB has a 500/0 probability of a $300 profit and a 50% probability of a $100 profit each year.

a. What is the expected pre-tax profit next year for firms A and B?

b. What is the expected after-tax profit next year for firms A and B?

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KidCo Cereal Company sells "Sugar Corns" for $2.50 per box. The company will need to buy 20,000 bushels of corn in 6 months to produce 40,000 boxes of cereal. Non-corn costs total $60,000. What is the company's profit if they purchase call options at $0.12 per bushel with a strike price of $1.60? Assume the 6-month interest rate is 4.0% and the spot price in 6 months is $1.65 per bushel.

The MNO stock trades at $66, the risk-free rate is 5%, and the MNO stock pays constant quarterly dividends of $0.45. Assume that the first dividend is coming three months from today, and the last

one coming immediately before the expiration of the forward contract. You can trade MNO single stock futures with an expiration of nine months.

Suppose you observe a 9-month forward price of $67.50. What arbitrage would you undertake?

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