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APPENDIX

Here are the answers to the exercises you read at the end of certain chapters. The exercise questions are repeated here for your convenience.

CHAPTER 2

1. GOOG closed today at \$353.02 with only one day left in October’s options. Implied volatility of the Oct \$350 call option is 241%. GOOG will announce earnings after the close.

a. Calculate the probability of the Oct \$350 call expiring ITM (i.e., with the stock price > \$350).

53%

b. Assume you are very bullish on GOOG; what is the probability of GOOG’s closing by expiration above \$400?

16%

c. We would have to pay \$7 or \$700 for one contract of the Oct \$400 calls. What will these calls be worth on expiration Friday (tomorrow) if GOOG closes at \$408?

This option will open a little over \$8 and decline through the day to \$8 as time value decays.

d. Why is the implied volatility so high?

The upcoming earnings announcement after the close.

e. True or false: This extremely high IV means the market thinks GOOG is going much higher.

False. High IV implies a wide swing in price is expected, but that swing could be up or down.

f. What price range for GOOG would you predict for tomorrow with a 68% probability?

The current price of \$353 ± 1σ = \$44.5 or \$309 to \$398.

2. IBM is trading at \$91.52, IV = 63%, and Nov options have 36 days to expiration. We buy a \$70/\$80 bull call spread for \$8.80. Our maximum profit of \$1.20 will occur if IBM closes on expiration Friday above \$80. Our maximum ...

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