Question

7. (10 pts)

a In Black Scholes option pricing model explain what it means if N(d₁ ) is 0.45 in terms of the movements in the stock and call option price.

b. What is N(d₁ ) referred to (what is the name) and what does it show?

c. How many call options can you write on one share of stock if N(d₁ ) is 0.5 in order to have a fully neutral hedged position?

Answer 1

a)In Black Scholes option pricing model N(d₁ ) =0.45 in terms of the movements in the stock and call option price means that if the stock price will rise by 1, the price of the call option will also change by 0.45.

b) N(d1) is referred to Delta.  It means  how much the price of the option is expected to change with changes in the price of the underlying. N(d1) is the probability of how far into the money the stock price will be. It is the expected value of the stock multiplied by the probability that the stock price will be at or above the stock price.

c) We can write two call options on one stock if N(d1) is 0.5 in order to have fully neutral hedged position