Chapter 13 Valuing Stock Options: The BSM Model

8) The risk-free rate is 5% and the expected return on a non-dividend-paying stock is 12%. Which of the following is a way of valuing a derivative?

A) Assume that the expected growth rate for the stock price is 17% and discount the expected payoff at 12%

B) Assuming that the expected growth rate for the stock price is 5% and discounting the expected payoff at 12%

C) Assuming that the expected growth rate for the stock price is 5% and discounting the expected payoff at 5%

D) Assuming that the expected growth rate for the stock price is 12% and discounting the expected payoff at 5%

9) When there are two dividends on a stock, Black's approximation sets the value of an American call option equal to which of the following?

A) The value of a European option maturing just before the first dividend

B) The value of a European option maturing just before the second (final) dividend

C) The greater of the values in A and B

D) The greater of the value in B and the value assuming no early exercise

10) Which of the following is measured by the VIX index?

A) Implied volatilities for stock options trading on the CBOE

B) Historical volatilities for stock options trading on CBOE

C) Implied volatilities for options trading on the S&P 500 index

D) Historical volatilities for options trading on the S&P 500 index

11) What was the original Black-Scholes-Merton model designed to value?

A) A European option on a stock providing no dividends

B) A European or American option on a stock providing no dividends

C) A European option on any stock

D) A European or American option on any stock

12) A stock provides an expected return of 10% per year and has a volatility of 20% per year. What is the continuously compounded expected return in one year?

A) 6%

B) 8%

C) 10%

D) 12%

13) An investor has earned 2%, 12% and -10% on equity investments in successive years (annually compounded). This is equivalent to earning which of the following annually compounded rates for the three year period.

A) 1.33%

B) 1.23%

C) 1.13%

D) 0.93%

14) Which of the following is NOT true?

A) Risk-neutral valuation assumes that investors are risk neutral

B) Options can be valued based on the assumption that investors are risk neutral

C) In risk-neutral valuation the expected return on all investment assets is set equal to the risk-free rate

D) In risk-neutral valuation the risk-free rate is used to discount expected cash flows