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To hedge its exposure to the price of oil, an airline buys a call option on oil with the exercise price Kc and sells a put option with the exercise price Kp (Kp < Kc). Both contracts have the same size chosen such as to hedge the entire exposure, and their premiums are equal. On a diagram, show
a) The unhedged exposure as a function of the future spot price of oil
b) The gain from the call option as a function of the future spot price of oil
c) The gain from the put option as a function of the future spot price of oil
d) The hedged exposure as a function of the future spot price of oil
Suppose that the interest rate on one-year bonds is 4 percent today, and is expected to be 5 percent one year from now and 6 percent two years from now. Using the Expectatio
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