Analyst Wants to Use the Black-Scholes Model to Value Call

question 15

Multiple Choice

analyst wants to use the Black-Scholes model to value call options on the stock of Ledbetter Inc.based on the following data: • The price of the stock is $40.
• The strike price of the option is $40.
• The option matures in 3 months (t = 0.25) • The standard deviation of the stock's returns is 0.40, and the variance is 0.16.
• The risk-free rate is 6%.
Given this information, the analyst then calculated the following necessary components of the Black-Scholes model:
• d1 = 0.175
• d2 = -0.025
• N(d1) • N(d2) N(d1) and N(d2) represent areas under a standard normal distribution function.Using the Black-Scholes model, what is the value of the call option?

• A)$2.81
• B)$3.12
• C)$3.47
• D)$3.82
• E)$4.20

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Definitions:

Intercept

The point where a line, curve, or surface intersects a coordinate axis.

Alpha

Alpha is a measure used in finance to describe an investment strategy's ability to beat the market, or its "excess return" relative to the return of the benchmark index.

Index Model

A model of stock returns using a market index such as the S&P 500 to represent common or systematic risk factors.

Covariance

A measure indicating the relationship between two variables and how they move together or apart from each other, used in finance to measure how the returns of two securities are related.