Study Questions for Ito’s Dilemma Case

1. Using the Black-Scholes pricing function in Excel, compute an option value for each

strike price and maturity date in case Exhibit 2. For simplicity, assume zero dividend

yield. Also, use Louise Ito’s volatility estimates, provided in case Exhibit 1.

2. Does the model yield logical estimates with respect to intrinsic value and time-tomaturity? What happens to the option premiums as you change the volatility? Can you

explain why volatility affects prices in such a manner?

3. How do your estimates compare with the actual quoted prices? Can you explain the

differences? Assuming your prices are correct, which options would you buy or sell?

4. Are there any problems with the way Ito estimated the volatility numbers? Can you think

of another way to estimate volatility that might yield estimates closer to the actual

quotes?

5. Using the Black-Scholes pricing function in Excel, calculate how sensitive IBM’s March

110 call price is to changes in stock price. How much does the call price vary for $0.50

changes in IBM share price when the option is at the money (assume stock price=$110),

in the money (assume stock price=$115), and out of the money (assume stock

price=$105)? What does this sensitivity analysis tell you