6/03 TRODER

From the strike prices. A strike of 95250 is really 95.25, which is equivalent to 4.75% (100 - 95.25). A strike of 95500 is 95.50 which is equivalent to 4.5% (100 - 95.50) Similarly for 95750. The free lectures on interest rate options may help you.

Thank you sir, i understand that but still the question is not clear. libor is currently 5% and the company can invest at libor minus 25 basis point Strike price in question r 95250 95500 95750 and in solution three possible collar combination call strike price put strike price interest rate less.25% less call prem addput prem net 95750 95500 4.25 95750 95250 4.25 95500 95250 4.50 i understand everything apart from this interest rate please have a look n explain. Thanks

The company is investing money and therefore it is buying a call option that fixes the maximum interest rate. So the first two involve a strike price for the call option of 95.75, equivalent to 4.25%. The third one has a strike of 95.50, equivalent to 4.50%. These would be the minimum interest rates that they would receive subject to what follows. However, to those minimum equivalent interest rates we need to subtract 0.25% (because options vary with LIBOR and they can invest at 0.25% less than LIBOR) and subtract the premium payable for the call option. However, with a collar, provided they are prepared to accept a maximum interest rate they can sell a put option, and so we need to add the premium they will receive from that. The final column therefore shows the minimum net interest they will end up effectively receiving.

Thank u so much sir,its clear now. One thing more i want to ask the strike price were given in different order in question, how would we know which combination of call n put to take.Thanks