2. The Ajax company common stock is selling for $44.95 and pays a quarterly divi

Question

2. The Ajax company common stock is selling for $44.95 and pays a quarterly dividend of $0.12. The stock traded ex-dividend on 4/15/2016. Your best friend works on the production line at Ajax and is complaining about working 20 hours per week of overtime for the past 6 weeks and it looks like it will continue until June. You noticed that Ajax has May options at the 45 strike selling at 2.10; the 50 strike selling at 1.05.

You currently have $2,000 in you brokerage account which is available for an investment lasting no more than six weeks. Compare your investment alternatives and indicate which one would be your choice and why.

Explanation / Answer

As the company is running on overtime basis we can pesume that it is running profitably and has a good prospects in future period.

If we invest now ie on 4/15/2016 for the price at 44.95 we can puchase 44.49 shares using $2,000. Now let us analyse whether to purchase 45 strike price put option or 50 strike price put option.

1. At 45 Strike Price

After 6 weeks expiry Cum dividend market price would be : 44.95 + (0.12*60/90) = 45.03 which is more than strike price as a result option wont get exercised.

2. At 50 Strike Price.

As market price would be 45.03 the strike price at 50 would be exercised and profit would be :

Price : 44.49 shares * $ 50 = $ 2224.50

Less : Option Commission (1.05*44.49) = 46.71

Less : Purchase price = $ 2000

Profit = $ 177.79/-

Hence 50 Striking option is profitable

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