Question

You own stock in a firm that has a pure discount loan due in six months. The loan has a face value of $50,000. The assets of the firm are currently worth $62,000. The stockholders in this firm basically own a _____ option on the assets of the firm with a strike price of:______ put;

$62,000. put; $50,000. warrant; $62,000. call; $62,000. call; $50,000.

Answer 1

Call; $50,000

A call option gives a right to its holder to buy underlying assets at predetermined at price i.e strike price and date i.e maturity date. If on maturity the call option is not beneficial to its holder then he does not exercise the option.

In above case, Firm's stockholder has own a Call option to buy its assets by paying $50,000 i.e strike price to its lender on maturity of loan.If on maturity the assets value of firm is reduced below to $50,000 then stockholder does not the exercise the call option and handover the firm's assets to lender.

Hope this will help, please do comment if you need any further explanation. Your feedback would be appreciated.