Stock ABC does not have any traded options and is trading at $25 now. You believe the stock will decrease by 20% over the next six months.
(a)If you have $5,000 to invest, find the percentage return for the following alternatives if the ABC price is 5,10,15,20,25,30,35,40,45,50 in six months:
(i) Sell short ABC stock at today's price. If you sell short, you must post a margin of 50% of the amount sold short (which means you can sell $10,000 short).
(ii) Buy put options at K=25 (assume they are priced using the Black-Scholes model with ? = .50, r = .01, t=.5, S0=25).
(iii) Sell put options at K=20 and buy put options at K=25 in equal numbers (assume they are priced using the Black-Scholes model with ? = .50, r = .01, t=.5, S0=25).
(b) Which option has the highest risk and lowest risk?
(c) Which strategy (if any) would you choose for your personal investing? Explain.