FINA702 Financial Risk Management Project Assignment Questions 2026 | AUT New Zealand

Financial Risk Management FINA702 Project

Question 1: Delta and Gamma Hedging Strategy [18 Marks]

The institutional investors in the New York stock market believes that Apple Inc. (AAPL) shares will stay flat until the end of the year due to a lacklustre launch of the tech company's iPhone 12. David, a small retail investor, decides to write 500 call options on AAPL while Rachel buys 700 same put options on AAPL with a strike price of $200 that expires on Dec 20 based on the prevailing market opinion. On the other hand, Ryan is more optimistic about launch of a 5G technology by iPhone and thus bullish on Apple’s stock, so he decides to buy 1000 call option on AAPL same strike price and expiration. (Assumption: 1 call option = 1 share of Apple)

The following table shows the option prices in the both Question 1 and Question 2. The expirations are Oct 17, Nov 21, and Dec 20. The continuously compounded risk-free rates associated with the three expirations are 0.0513, 0.0545, and 0.0581, respectively. The standard deviation is 0.29.

Scenario 1: Apple Inc. announces to unveil the iPhone 12 with 5G capabilities sooner than expected.

a)How will this news impact the Apple’s share price and the investments of David and Ryan? [1 Mark]
b)Will Ryan prefer Long Call and Short Stock or Short Call and Long Call Strategy and why? [1 Mark]
c)Show complete working of the strategy implementation using the Two-Period Binomial pricing model. [ Given that the option prices are observed on Oct 6 and the current price of AAPL share is
$200.15]

i.Determine the periodic risk-free rate (a), the up factor (u), the down factor (d), and the probability of price increase (p). [2 Marks]
ii.Construct a binomial tree showing the stock prices, call prices, hedge ratio and portfolio value at each node of the tree. Perform necessary adjustments in stock and/or option positions and their associated cashflows at each node in the binomial tree. [5 Marks]

Scenario 2: Apple Inc. announces to delay the launch of iPhone 12 with 5G capabilities.

d)How will this news impact the Apple’s share price and the investments of David and Ryan? [1 Mark]
e)Will Ryan prefer Long Call and Short Stock or Short Call and Long Call Strategy and why? [1 Mark]
f)Show complete working of the strategy implementation using the Black-Scholes-Merton pricing model. [ Given that the current stock prices $200.15 (Dec 18), next day price is $198 (Dec 19) and stock price on the day of option expiration is $203 (Dec 20)].

i.Compare the amount of money you end up with to the amount you would have had if you had invested the money in a risk-free bond. Explain why the target was or was not achieved. Perform necessary adjustments in stock and/or option positions and their associated cashflows, if requires. [3 Marks]
ii.Now add another option, one on the same stock with an exercise price of 210 and the same expiration. Reconstruct the problem by delta and gamma hedging. Explain why the target was or was not achieved. Perform necessary adjustments in stock and/or option positions and their associated cashflows, if requires. [4 Marks]

Question 2: Straddle Strategy [7 Marks]

Suppose there is a forecast that the price change could be very large probably greater than the total option premium however, the direction of the price change is uncertain. In such situation Rachel and Ryan, who hold the options until expiration, are determined to use the straddle strategy to reduce or hedge this large price change with uncertain direction.

The current stock price is $200.15 and please refer question 1 for option’s expiration dates, risk-free rates, standard deviation, exercise price and option prices.
a)Which strategy will Rachel and Ryan will prefer and why? [1 Mark]
b)Determine the profits of Rachel and Ryan for the holding period indicated for possible stock prices are the multiple of 10 from 100 to 300 at the end of the holding period [2 Marks]
c)Create line charts from the estimated profits of straddle strategies in the case of both Rachel and Ryan. [2 Marks]
d)Identify the breakeven stock prices at expiration and the minimum and maximum profits of Rachel and Ryan. [2 Marks]