Marengo Co 12/10

if D1 is negative (-0.0552), then -D1 is positive (- - 0.0552 = + 0.0552) You should remember from school that 2 negatives make a positive :-)

Thanks but you answered half of my question. How -d1=0.0552 will produce N(-d1)=0.5219. while my answer is at 0.06 (0.0199+.5=0.5199)? Why examiner gave N(-d1) in question requirement? Is there any logic for this?

Because i the normal distribution tables you can only go to 2 decimal places, BPP have copied what the examiner has done in his answer which is to apportion between 0.05 and 0.06 (on the basis that 0.055 is half way between them). So (0.0199 + 0.0239)/2 = 0.0219. Add 0.5 and we get 0.5219. It is a neat thing to do if you have the time, but you won't lose marks by not bothering and doing what you did. With regard to giving N(-d1), it is because we are valuing a put option rather than a call option. It is provable but you cannot ever be expected to - if he wants you to do it then (as in this question) he will tell you to.

Thanks You sir

You are welcome :-)

Hi, I've got a question regarding the Marengo question too. In the question in my study text, it states that this is a put option, because we're worried the share price might fall, and subsequently we may assume that the delta option of a put option is equivalent to N(-d1). However, in your study notes, example 6 of chapter 13 (my notes might have different chapter numbers to yours, but it's the delta hedge question) it seems to me to be the same scenario, i.e. we're worried the share price might fall. However in this example we don't use a negative d1. Why is that? Many thanks for your help.

If we are worried that the share price may fall, then we either sell a call option (which is what is happening in the lecture example - and this is a normal delta hedge (for reasons I explain in the lecture), or alternatively we buy a put options. Buying a put option is not a normal delta hedge, but if the question tells you to in the exam then obviously you do :-)

Thanks very much for explaining that to me. I'll need to watch your lecture again when I get home!

You are very welcome :-)