2019 April Paper B - Q3

Hi,

Just a question one part of acted solution (vi)+(vii). I can follow everything just one question on the constraining value of 10,076 (value of investors portfolio at t=0).

I'm wondering why we are constrained to the portfolio value of 10,076 at time 0. Is it because we are assuming the investor has no additional cash to buy more options or shares once the portfolio is setup? So they can only sell or buy the shares, options they already have? Foer example if we weren't constrained to 10,076 we could buy loads of more puts on top of what we have (without selling calls) to reduce the probability of shortfall when shares price is low, but this would require external cash if we were not selling any calls. Where in the question is the clue for this constraint or am I missing some fundamental theory?

Thanks,

Darragh

 

Ah ok that's cool. So if there was a portion of cash in the portfolio from the outset I could use this to buy whatever units of put options I can get (cash/price of option t=0) for example without selling calls, thus keeping the value of the portfolio the same BUT I could reduce the probability of shortfall?

 

Yeah of course that make's sense Thanks for your help on this.

 

I can't follow how to derive the portfolio in part (vi) of -1000 calls and 2296 puts. (The IFoA solution spreadsheet doesn't provide any insight; the Examiner should've lost marks for unclear workings Was it an incredibly lucky guess or a painfully long process of trial &error? I tried using goalseek but it failed to identify this portfolio.

 

Thanks Steve -didn't work for me (either generate an Excel error (pic attached or other amounts of Puts, such as +1159) since there's nothing in the Solution spreadsheet/command to maximise the probability above the 19.85% of part (v). I partly care because i spent time creating my own goalseek in my own attempt for this question, and i'm unsure why it also failed. [i forced the unit of puts to reflect the value of calls and shares and then set a goalseek to increase the probability (that total portfolio value >=15,000) by changing the amount of calls -pic also attached ].

Anyway, thanks for your response and suppose i would receive method marks in the exam even if don't arrive at final correct solution. And good to know that not expected to spend awhile in the exam on trial & error.