Derivatives

UM22BC321A
Raghavendra R
Research Scholar
Department of Commerce
UNIT 3 –DERIVATIVES

Unit 3: Option Pricing, Strategies & Valuation 15 hours

Introduction to Options contracts –basic principles. Types of options – Basic

concepts or Terms used in Options trading - Options terminology.
Trading and settlement of options. Difference between option and futures.
Options pricing – Determinants of Option Pricing – Upper and Lower limits of
option pricing (Moneyness) – In the Money – At the money and Out of the
money.
Valuation of option: Introduction to basic model, one step Binomial model
(Problems), Black and Scholes Model (Problems), Option Greeks (Problems).
Introduction to Options
An option is a contract that gives the buyer (the owner
or holder of the option) the right, but not the obligation,
to buy or sell and underlying asset or instruments at a
specified strike price on a specified date, depending on
the form of the options.

Buyer/Holder (buys this contract) & Maker/seller (sells

this contract)
Buyer Pays premium and maker receives premium
Agreed price = ₹1000 price of contract + Premium ₹100
The holder pays ₹1100 for this contract & the maker
receives ₹1100
Introduction to Options
Types of Options:
1. Call Option (CE) - Right to Buy
An option contract giving the owner the right to buy a specified
amount of an underlying security at a specified price within a
specified time.

2. Put Option (PE) - Right to Sell

An option contract giving the owner the right to sell a specified
amount of an underlying security at a specified price within a
specified time.
Introduction to Options

Option Terminologies:
1. Underlying: This is the specific security/asset on which an
options contract is based.
2. Option Premium: Premium is the price paid by the buyer to the
seller to acquire the right to buy or sell.
• It is the total cost of an Option contract.
• Premium of an option = Intrinsic Value + Time value.
3. Strike/Exercise Price The price at which a specific derivatives
contract can be exercised. The term is mostly used to describe
options in which prices are fixed in contract.
4. Expiration date: The date on which the option expires is known
as Expiration Date.
5. Exercise: Is an action by an option holder taking advantage of a
favourable market situation.
Introduction to Options

6. Intrinsic Value: It is the value primarily used in options pricing

to indicate the amount of option is “In the Money”. Difference
between strike price and market price.
7. Time value: The portion of an option’s premium that is
attributable to the amount of time remaining until the expiration
of the option contract.
8. Time Decay: It is the ratio of the change in an options price to
the decrease in time to expiration.
Introduction to Options

Option Styles
1. European style of options: The European kind of option is the
one which can be exercised by the buyer on the expiration day
only & not anytime before that.
2. American style of options: An American style option is the
one which can be exercised by the buyer on or before the
expiration date, i.e. anytime between the day of purchase of
the option and the day of its expiry.
3. Asian style of options: These are in between European and
American. An Asian option’s payoff depends on the average
price of the underlying asset over a certain period of time.
Introduction to Options

Options Market:
• The Options Market makes up for a significant part of the derivative
market, particularly in India.
• Nearly 80% of the derivatives traded are options and the rest is
attributable to the futures market.
• Custom options were available at Over the Counter (OTC) since
1920’s and these options were mainly on commodities.
• Options on equities began trading on the Chicago Board Options
Exchange (CBOE) in 1972
• Options on currencies and bonds began in late 1970s. These were
again OTC trades.
• Exchange-traded options on currencies began on Philadelphia Stock
Exchange in 1982.
• Interest rate options began trading on the CME in 1985
Introduction to Options

An Example- ITC Ltd Call option at NSE

• If the buyer is willing to buy ITC Ltd Call Option of

Rs.350 (350 being the strike price) then it indicates
that the buyer is willing to pay a premium today to buy
the rights of buying ITC at Rs.350 on expiry. Needless
to say he will buy ITC at Rs.350, only if ITC is trading
above Rs.350.
Introduction to Options
Example (Call Option)
• A stock is trading at Rs.67/- today. You buy a call
option and are given a right today to buy the same
one month later, at Rs.75/-, but if the share price on
that day is more than Rs.75, would you buy it?
• You would buy after 1 month even if the share is
trading at 85/, you can still get to buy it at Rs.75. In
order to get this right you are required to pay a small
amount today, say Rs.5.0/- as premium.
• If the share price moves above Rs.75, you can exercise
your right and buy the shares at Rs.75/-.
• If the share price stays at or below Rs.75/- you do not
exercise your right and you do not need to buy the
shares. All you lose is Rs.5/ (premium only) in this
case.
After you get into this agreement, there are only 3
possibilities

• The Stock Price

1. Can go up Rs.85/
2. Can go down to Rs.65/
3. Can stay at Rs.75/-

Case 1 – If the Stock Price goes up, then it would make sense in
exercising your right and buy the stock at Rs.75/-.
The P&L would look like this;
Price at which Stock is bought = Rs.75, Premium paid =Rs.5
Expense = Rs.80, Current Market Price = Rs.85
Profit = 85 – 80 = Rs.5
Contd……………
• Case 2 – If the stock price goes down to Rs.65/, it does
not make sense to buy it at Rs.75/- as effectively you
would be spending Rs.80/ (75+5) for a stock that’s
available at Rs.65/- in the open market.
a)If you don’t exercise ; Loss= 5/-
b)If you exercise loss can be Outflow =80-65 your
Loss could be Rs.15/-
Hence you decide not to exercise the option

• Case 3 – Likewise if the stock stays flat at Rs.75/- it simply

means you are spending Rs.80/- to buy a stock that is
available at Rs.75/-, hence you would not invoke your
right to buy the stock at Rs.75/
Loss=5/-
Moneyness in Options

• At the money (ATM) is a situation where an Option’s

Strike price is identical to the price of the underlying
security.
• In the Money (ITM) means that a call Option’s strike
price is below the market price of the underlying asset,
or that the strike price of a put option is above the
market price of the underlying asset.
• Out of the Money (OTM) is a term used to describe a
call option with a strike price that is higher than the
market price of the underlying asset, or a put option
with a strike price that is lower than the market price
of the underlying asset.
Moneyness in Options

Type of Option Contract Call Option Put Option

In the Money Spot Price > Strike Price Spot Price < Strike Price
(S>X) (S<X)

At the Money Spot Price = Strike Price Spot Price = Strike Price
(S=X) (S=X)

Out of the Money Spot Price < Strike Price Spot Price > Strike Price
(S<X) (S>X)
Moneyness in Options
• Intrinsic Value: The intrinsic value of an option is
defined as the amount by which an option is “In the
Money”.
• Time Value: The portion of an option’s premium that is
attributable to the amount of time remaining until the
expiration of the option contract.
• For Call Option:
Intrinsic Value = Spot Price – Strike Price
Time Value = Option Premium – Intrinsic Value
• For a Put Option:
Intrinsic Value = Strike Price – Spot Price
Time Value = Option Premium – Intrinsic Value

Note: The option has Zero intrinsic value if it is ATM or

OTM.
Risk in Options
• Buying options have limited risk up-to the premium paid and
unlimited profit.
• Selling options have unlimited risk and limited profit up-to
the premium received.

Positions in Options
• Long Position: The term used when a person owns a security,
commodity or currency.
• If a person is long in a security then he wants it to go up in
price.
• Short position: The term used to describe the selling of a
security, commodity, or currency.
• The investor's sales exceed holdings because they believe
the price will fall.
 Options

Call Option (CE) Put Option (PE)

Bullish Bearish Bearish Bullish

Buyer Seller Buyer Seller
Risk: Limited Risk: Unlimited Risk: Limited Risk: Unlimited
Rewards: Rewards: Rewards: Rewards:
Unlimited Limited Unlimited Limited
Problems
1. Consider a Call Option and Put Option of a stock
a) Call Option has an exercise price of ₹70.
b) Put option has an exercise price of ₹70.
Compute the intrinsic value of the options if stock prices are ₹65, ₹75 & ₹70?

Call Option
Stock Price Exercised Max Intrinsic
Value
₹65 65-70 -5 0
₹75 75-70 5 5
₹70 70-70 0 0

Put Option
Stock Price Exercised Max Intrinsic
Value
₹65 70-65 5 5
₹75 70-75 0 0
₹70 70-70 0 0
• Example- HUL was trading at Rs.2950/- in the spot market.
This is the underlying price.
• For a call option, the underlying price has to increase for the
buyer of the call option to get the benefit.
• Like Futures contract, options contract also has expiry.
• In fact both equity futures and option contracts expire on the
last ‘Thursday of every month’ but Index Options (Nifty 50 &
Bank-nifty) has weekly expiry.
• Just like futures contracts, option contracts also have the
concept of near month, next month and far month.
• Value of an option / Option Premium= Intrinsic Value + Time
value
Factors affecting option pricing

Factors Relation with Call Option Relation with Put Option

Pricing Pricing

Current Price Directly Proportional Inversely Proportional

Strike Price Inversely Proportional Directly Proportional

Volatility of Underlying Directly Proportional Directly Proportional

Asset’s Price
Expected Dividend Inversely Proportional Directly Proportional

Time to Expiry Directly Proportional Directly Proportional

Risk free Interest Rate Directly Proportional Inversely Proportional

Problems on Buying CE

Q.1) For a contract of Ashok Leyland assume the option premium

was Rs.3, The exercise price is Rs.25 and current market price is
Rs.23. Each contract stands for 100 shares.

Case 1: After 3 months market price of share rose to Rs.30. At this

point should investor exercise the option?
Case 2: After 3 months market price of share is Rs.28. At this point
should investor exercise the option?
Case 3: After 3 months market price of share is to Rs.21. At this
point should investor exercise the option?
Problems on Selling CE

Q.2) For a contract of Nestle assume the option premium was

Rs.30, The exercise price is Rs.2720 and current market price is
Rs.2710. Each contract stands for 200 shares.

Case 1: After 3 months market price of share rose to Rs.2780. At

this point should investor exercise the option?
Case 2: After 3 months market price of share is Rs.2750. At this
point should investor exercise the option?
Case 3: After 3 months market price of share is to Rs.2700. At this
point should investor exercise the option?
Problems on Buying PE

Q.3) For a contract of Ashok Leyland assume the option premium

was Rs.3, The exercise price is Rs.25 and current market price is
Rs.23. Each contract stands for 100 shares.

Case 1: After 3 months market price of share is Rs.21. At this point

should investor exercise the option?
Case 2: After 3 months market price of share is Rs.22. At this point
should investor exercise the option?
Case 3: After 3 months market price of share is Rs.27. At this point
should investor exercise the option?
Problems on Selling PE

Q.4) For a contract of Nestle assume the option premium was

Rs.30, The exercise price is Rs.2720 and current market price is
Rs.2710. Each contract stands for 200 shares.

Case 1: After 3 months market price of share rose to Rs.2780. At

this point should investor exercise the option?
Case 2: After 3 months market price of share is Rs.2690. At this
point should investor exercise the option?
Case 3: After 3 months market price of share is to Rs.2660. At this
point should investor exercise the option?
Problems on Terminal Value

1. Assume that the price of a share of Maruti Udyog is ₹1470 on

October 1st & there is a call option with maturity date of October
30th and exercise price of ₹1500. The call option is selling at
₹84.75. Even though a call option is written on 200 shares of
Maruti, calculate the terminal value on a per share basis. Calculate
the gains & losses from buying a call option for different prices of
Maruti Udyog shares on the option expiration date.
Stock Prices: 1340 1380 1420 1460 1500 1540 1580 1620 1660
Problems on Terminal Value

2. Consider the case of writing call options on Cipla shares. Each

option is based on 1250 shares of Cipla. Assume that on October
1st, the Cipla share price is ₹270 and you are writing a call option
with an exercise price of ₹300 and an exercise date of October
30st. The option premium for this call option is ₹6.40. Calculate
the terminal value and Gain/Loss of a written call.
Stock Price: 230 250 270 290 300 310 330 350 370
Problems on Terminal Value

3. Assume that the price of Tata Motors stock is ₹490 on October

1st and there is a put option with a maturity of 90 days and an
exercise price of ₹520 & the put option is bought for ₹28.40 The
contract size for a Tata Motor put option is ₹850. Calculate
terminal value and Gain/Loss.
Stock Price: 440 460 480 500 520 560 580 600 620

4. Assume that the price of Tata Motors stock on October 1st and
there is a put option with a maturity of 90 days and an exercise
price of ₹520. The put option is selling for ₹78.40. The contract size
for a Tata Motor shares on the option expiration date. Calculate
terminal value and Gain/Loss.
Stock Price: 360 380 400 420 440 460 480 500 520 560 580 600
Problems on Terminal Value
5. Assume that the price of a share of Adani Ports & SEZ stock in
₹945 on October 1st and there is a call option with maturity on
October 31st and an exercise price of ₹1020. The lot size is 1250
shares. The spot price of Adani Ports & SEZ is given below. The call
option is selling at ₹45. Calculate the terminal value of the option
& the gain/loss to the buyer of such an Option.
Stock Price: 1000 1120 1050 920 960 1025 1080 1075 1060

6. Assume that the price of a share of Infosys stock is ₹1400 on

October 1st and there is a call option with maturity in October 30st
and an exercise price of ₹1550. The lot size is 300 shares. The spot
price of Infosys is given below. The call option is selling at ₹40
Calculate the terminal value of the option & the gain/loss to the
buyer of such an Option.
Stock Price: 1440 1475 1490 1600 1650 1680 1580 1675 1700
 Option Pricing Models

The Binomial Pricing The Black & Scholes

Model Model
The Binomial Option Pricing Model

• This model uses an iterative procedure, allowing for the

specification of nodes, or points in time, during the time
span between the valuation date and the option’s expiration
date. It was developed in 1979.
• The model reduces possibilities of price changes and
removes the possibility for arbitrage.
The assumptions
• There are 2 possible outcomes- A Move up, or A Move Down.
• The major advantage of a binomial option pricing model is that they’re
mathematically simple but models can become complex in a multi-period model.
• In contrast to the BS Model which provides a numerical result based on inputs, the
binomial model allows for the calculation of the asset and the option for multiple
periods along with the range of possible results for each period.
• The basic method of calculating the binomial option model is to use the same
probability each period for success and failure until the option expires.
• However, a trader can incorporate different probabilities for each period based on
new information obtained as time passes.
• A binomial tree is a useful tool when pricing American options and embedded
options.
• Its simplicity is its advantage and disadvantage at the same time.
• The tree is easy to model out mechanically, but the problem lies in the possible
values the underlying asset can take in one period of time.
• The underlying asset can only be worth exactly one of two possible values, which
is not realistic, as assets can be worth any number of values within any given
range.
Explanation of Binomial Model

• There may be a 50/50 chance that the underlying asset price can
increase or decrease by 20% in one period.
• For the second period, however, the probability that the
underlying asset price will increase may grow to 70/30.
• If an investor is evaluating an oil well, that investor is not sure
what the value of that oil well is, but there is a 50/50 chance that
the price will go up.
• The binomial model allows for this flexibility; the Black-Scholes
model does not.
Binomial Model for Call Option

Let the current price of the stock be S0 and the price of the call be C0. Consider forming a
portfolio of one stock and one written call.
This portfolio has a value of SL if the terminal stock price is SL and SX if the terminal stock
price is SH.
Thus, this portfolio is risky, as the terminal value of this portfolio is not known with
certainty at time zero.
However, consider a strategy of buying nC stocks for each call written, such that the
portfolio is risk free.
This means that the terminal value of the portfolio will be the same, irrespective of
whether the terminal stock price is SL or SH. This method of forming a portfolio is called a
riskless hedge and the value of nC is called hedge ratio 1.

Hedge Ratio 1 (nC) is the ratio of the number of shares to be purchased for each call to be
written.
nc = SH - SX
SH – SL
Binomial Model for Call Option
Note that nC < 1, because SL < SX. Thus, a risk-less hedge requires buying less than
one share of a stock for each call written.
Since the portfolio is risk-less, we can calculate the price of the call option as
follows:
The initial investment is nC S0 – C0, because buying nC stock requires a cash
outflow of nC S0 and the written call will result in a cash inflow of C0.
The terminal value is nC SL, which is risk-less. Thus, the current price of this risk-
less portfolio should be equal to the present value of the terminal value, or
nC S0 – C0 = (nC SL) (1 + r)–T

If we define k = SL / SX and nc1 = k nC, we have nC SL = nC1 SX. In other words:

Hedge Ratio 2 (nC1) is the fraction of the exercise price to be borrowed at the risk-
free rate at this time in order to replicate the call.
nc1 = nc * SL
SX

The pricing relationship for a call option is:

C0 = nC S0 – nC1 SX (1 + r)–T
Problems on Binomial Model (CE)
1. Assume that Tata Motors stock is currently selling for INR 750. There is a call
option on Tata Motors with a maturity of 90 days and an exercise price of INR
800. The stock price on the expiration date could take either of the following
two values: INR 720 or INR 840. The risk-free rate is 8%. What will be the
price of a call option that has a maturity of 90 days?
2. The contract size of Bank of India options is 950. Bank of India shares are
selling at INR 338 on September 1. Call options and put options are available
with expiry on October 29 and with an exercise price of INR 350. It is
expected that the Bank of India share price will be either INR 360 or INR 320.
The risk-free rate is 9%. Using the binomial options pricing model, calculate
the call option price on September 1.
3. On July 1, ONGC shares are selling at INR 1,185. There are call options and
put options available with the exercise date of September 30 and an exercise
price of INR 1,260 on ONGC shares with a contract size of 225. It is estimated
that the stock price could be either INR 1,300 or INR 1,100 on the expiry date
of September 30. The risk-free rate is 8%. Calculate the price of a call option
on July 1.
Binomial Model for Put Option

Let the current price of the stock be S0 and the price of put be P0 . Consider forming a
portfolio of one stock and one bought put.

This portfolio has a value of SX if the terminal stock price is SL and SH if the terminal stock
price is SH. Thus, this portfolio is risky, as the terminal value of this portfolio is not known
with certainty at time zero. However, consider a strategy of buying np stock for each put
bought, such that the portfolio is risk-free.

This means that the terminal value of the portfolio will be the same, irrespective of
whether the terminal stock price is SL or SH. This method of forming a portfolio is called a
risk-less hedge, and the value of np is called hedge ratio 1 for the put.

Thus, for a risk-free hedge (Hedge Ratio 1):

np = SX - SL
SH – SL
Binomial Model for Put Option
Hedge Ratio 2:
np1 = np * SH
SX
The initial investment is np S0 + P0. Since the initial investment should be equal to the
present value of the terminal value of the risk-less portfolio:

nP S0 + P0 = nP SH (1 + r)–T

Defining kP = SH / SX and nP1 = nP kP = nP (SH / SX):

P0 = nP1 SX (1 + r)–T – nP S0

Here, nP1 is the percentage of the present value of the exercise price that should be
borrowed at the risk-free rate to purchase the stock and put option.

Thus, the calculation of the put price by using the binomial options formula also requires
two
hedge ratios. Hedge ratio 1 (nP) is the number of shares to be bought for each put bought,
which will be equal to the ratio of the change in the price of the put to the change in the
price of a share. Hedge ratio 2 (nP1) is the fraction of the exercise price that is to be
borrowed at the risk-free rate in order to replicate the put option.
Problems on Binomial Model (PE)
1. Assume that Tata Motors stock is currently selling for INR 750. There is a put
option on Tata Motors with a maturity of 90 days and an exercise price of INR
800. The stock price on the expiration date could take either of the following
two values: INR 720 or INR 840. The risk-free rate is 9%. Calculate the put
option price using binomial options pricing.
2. The contract size of Bank of India options is 950. Bank of India shares are
selling at INR 338 on September 1. Call options and put options are available
with expiry on October 29 and an exercise price of INR 350. It is expected
that the Bank of India share price will be either INR 360 or INR 320. The risk-
free rate is 9%. By using the binomial options pricing model, calculate the put
option price on September 1.
3. On July 1, ONGC shares are selling at INR 1,185. There are call options and
put options available with the exercise date of September 30 and an exercise
price of INR 1,260 on the ONGC shares with a contract size of 225. It is
estimated that the stock price could be either INR 1,300 or INR 1,100 on the
expiry date of September 30. The risk-free rate is 8%. Calculate the price of a
put option on July 1.
The Black-Scholes Model Options Pricing Model

• The option is European and can only be exercised at expiration.

• No dividends are paid out during the life of the option.
• Markets are efficient (i.e., market movements cannot be predicted).
• There are no transaction costs in buying the option.
• The risk-free rate and volatility of the underlying are known and
constant.
• Fortunately, one doesn’t need to know or even understand the math
to use Black-Scholes modelling in their own strategies.
• Options traders have access to a variety of online options calculators,
and many of today's trading platforms boast robust options analysis
tools, including indicators and spreadsheets that perform the
calculations and output the options pricing values.
The Black-Scholes Model makes certain assumptions
Black and Scholes assume the following in their derivation of the options pricing relationship:
1. The stock price behaviour corresponds to the lognormal model.
2. There are no transaction costs or taxes, and all securities are infinitely divisible. Thus, an
investor can purchase or sell any fraction of the underlying security or options without
paying any commission or taxes on the gains.
3. There are no dividends on the stock during the life of the option. Thus, the Black–Scholes
analysis applies only to non-dividend-paying stocks. This formula can be modified to take
dividends into account.
4. There are no risk-less arbitrage opportunities. In binomial options pricing, it was shown that
a portfolio can be formed by taking a short position in one call and a long position in a
certain number of shares of the stock and that in the absence of arbitrage opportunities,
this portfolio will provide risk-free returns. The Black–Scholes model uses the same
argument in developing the options pricing formula. By using continuous compounding and
a lognormal distribution for the stock price, Black and Scholes derived differential
equations, and the solution to these differential equations provides the options pricing
equation.
5. Security trading is continuous. This means that the underlying security as well as the
options and the risk-less security are traded every instant.
6. Investors can borrow as well as lend at the same risk-free rate of interest, and the short-
term risk-free rate of interest, r, is constant.
The Black-Scholes Model (Formula)
C = So N(d1) – K e–rt N(d2)
P = K e–rt N(-d2) - So N(-d1)
d1 = Ln(So/K) + (r+ 𝜎2/2)T
𝜎 √T
d2 = d1 - 𝜎 √T
N(-d1) = 1- N(d1) & N(-d2) = 1- N(d2)
Where;
C = Price of a Call Option
P = Price of a Put Option
So= Price of the Underlying Asset
K = Strike Price of the Option
r = Rate of Interest
T = Time to Expiration
𝜎 = Standard Deviation/Volatility of the Underlying Asset
N represents a standard normal distribution with mean = 0 and
standard deviation = 1
Solve the problems using Black & Scholes Model (CE)

1. Assume that on June 1, Tata Steel is selling at INR 488.95 and there
is a call option on this stock expiring on June 29 with an exercise
price of INR 500. The risk-free rate is 12%, and the volatility of the
stock is estimated as 25%. Calculate the price of the call according
to the Black–Scholes formula.
2. Assume that Tata Motors stock is currently selling for INR 750. There
is a call option on Tata Motors with a maturity of 90 days and an
exercise price of INR 800. The volatility in the stock price is
estimated to be 22%. The risk-free rate is 8%. What will be the price
of a call option that has a maturity of 90 days?
Solve the problems using Black & Scholes Model (PE)

1. Calculate the price of a put for the Tata Steel stock with a stock price
of INR 488.95, exercise price of INR 500, time to maturity of 28 days,
and a volatility of 25% at a risk-free rate of 12%. Calculate the price
of the put according to the Black–Scholes formula.
2. The contract size of Bank of India options is 950. Bank of India
shares are selling at INR 338 on September 1. Call options and put
options are available with expiry on October 29 and with an exercise
price of INR 350. It is estimated that the standard deviation of the
stock price is 30%. The risk-free rate is 9%. By using the Black–
Scholes options pricing model, calculate the put option price on
September 1.
Solve the problems using Black & Scholes Model

1. Let us assume that the share price of Wipro Ltd. is currently priced
at Rs.415 and the option exercisable in 3 months time has an
exercise price of Rs.400. Risk free rate of interest is 5% P.A. and
standard deviation(volatility) of share price is 22%
Q1. Is the call option worth buying at Rs.25?
Q2. Calculate the value of call option if the current market price
is Rs.380
Q3. What would be the worth of put option if the current price
is considered Rs.380
The Option Pricing Model for Securities that Pay
known Dividend
When a stock pays dividends, the options are not payout-protected.
This means that when a stock goes ex-dividend, the stock price will
decrease by the amount of dividends that are declared. The decrease in
the stock price due to dividend payment will decrease the price of a call
option and increase the price of a put option. Thus, the option price
should take into account the possibility of dividend payment during the
life of the option.

C = (SO – Dert ) N(d1) – e-rt K N(d2)

Where,
d1 = Ln(So-Dert/K) + (r+ 𝜎2/2)T
𝜎 √T
d2 = d1 - 𝜎 √T
Problems on Option Pricing Model for Securities that
Pay known Dividend

1. Assume that the Tata Motors stock is currently selling for INR 750.
There is a call option on Tata Motors with a maturity of 90 days and
an exercise price of INR 800. The volatility in the stock price is
estimated to be 22%. The risk-free rate is 8%. Tata Motors is
expected to pay dividends of INR 15 after 30 days. What will be the
price of a call option that has a maturity of 90 days?
2. Assume that on March 1, Tata Steel stock is selling at INR 480 and
there is a call option on this stock expiring after 90 days with an
exercise price of INR 500. The risk-free rate is 12%, and the volatility
of stock is estimated as 25%. The stock will pay a dividend of INR 15
after 60 days. Calculate the price of the call according to the Black–
Scholes formula.
Option Greeks
A number of Greek letters have been developed with respect to options
hedging. They are delta, gamma, vega, theta, and rho. Greeks indicate
the sensitivity of options price changes to changes in the five
parameters of options price, namely, stock price, exercise price, time to
expiration, volatility, and risk-free rate.

The delta of an option is defined as the rate of change in option price

with respect to the price of the underlying asset, i.e.,
∆ = δC/δS
Gamma is the rate of change in the value of the option portfolio with
respect to the delta, i.e.,
Γ = δC/δ∆
Vega is the rate of change in the value of the option portfolio with
respect to the volatility of the underlying asset, i.e.,
ν = δC/δ𝜎
Option Greeks
Theta refers to the rate of change in the value of the option portfolio
with respect to the time to maturity, i.e.,
θ = δC/δT
Rho refers to the rate of change in the value of the option portfolio with
respect to the risk-free interest rate, i.e.,
ρ = δC/δr
 Thank You
Raghavendra R
Research Scholar
Commerce Department
[email protected]