The name of the case is “The Galaxy Dividend Income Growth Fund’s Option Investment Strategies”.
Your write-up should be clear and precise, and the exhibits detailed enough for the Board to find out
how you arrived at your solution. So, for example, you should provide a key to all abbreviations, and
if you use a spreadsheet, describe how each column is obtained.
The written case reports will be graded based on the following criteria:
• 30% Written presentation, organization, readability and use of language
• 30% Logic, relevance and justification assumptions underlying recommendation
• 40% Numerical Analysis
Please form your analysis and report based on the following questions. But the final report should not be as if you are answering those questions. Rather, it should start with a short executive summary, followed by more detailed analyses.
1. To analyze the profit and loss possibilities inherent in the option investment strategies, please
perform the following analyses for call and put options on Facebooks’ common stock that
mature in February 2014 and that have an exercise price of $57.50 per share.
a. Compute net profits and losses per share (actually dollar profits and losses, not rate of
return) at expiration (February 2014) for the following investment strategies:
• Buying a call option on Facebook’s common stock;
• Writing a call option on Facebook’s common stock;
• Buying a put option on Facebook’s common stock;
• Writing a put option on Facebook’s common stock.
Hint: Start by calculating the price or loss per share assuming that, by Feb. 22, 2014,
Facebook’s common stock is selling at, say, $60 per share. Repeat this calculation for several
other possible stock prices at the time of expiration that span a wide range above, below and
at the exercise price of $$57.50 per share (eg. $45, $50, $55, $65 and so on).
b. For each of the option investment strategies listed above, draw a graph relating possible
profits and losses per share to Facebook’s stock price at the time of expiration. Put profit
and losses per share on the vertical axis of your graph and stock prices on the horizontal
c. Compute profits and losses per share, and graph them against stock prices for the strategy
of buying a share of Facebook’s common stock at $57.74 per share and holding it until
February 22, 2014.
2. Study the graph created in your answer to question 1. Which of the various strategies
examined offers the greatest upside return? The least upside return? The greatest downside
potential? The least downside potential? Which is likely to produce better investment returns
more often? In your opinion, which strategy is the most aggressive? Which is the most
conservative? Which is the most conservative? In general, are investment strategies involving
options risky or safe?
3. If you owned Facebook’s stock, but were concerned about the possibility of bad news, how might you use options to protect yourself against the risk of a price decline?
4. Buying a share of Facebook’s stock at $57.74 per share while simultaneously writing
(selling) a call option with an exercise price of $57.50 per share is called a “covered call”
(also a “buy-write”) investment strategy. What is the relationship between covered call
positions and selling put options? Do the quoted put and call option prices appear to be
consistent with this relationship? Using the Treasury Bill Term Structure as of Jan. 14, 2014
provide in Table A below, is there any put-call parity violations? If so, how could one exploit
5. Suppose on January 14, 2014, Facebook’s stock was valued at $75 per share instead of
$57.74. What is the very least you would expect to pay for the February 2014 call option
exercisable at $57.50? What is the most? In general, what factors should enter into a
determination of the appropriate price to pay?
Table A Treasury Bill Term Structure as of January 14, 2014 (%)
Maturity Date Annual Yield to Maturity
Jan. 18, 2014 0.00%
Feb. 22, 2014 0.00%
Mar. 22, 2014 0.03%
April 19, 2014 0.04%
June 21, 2014 0.06%
Jan. 17, 2015 0.11%