--%>

What is Box Spread

Box Spread: This is another strategy which seeks to exploit the arbitrage opportunities which are available in the market. In case that the options are correctly priced, this strategy would earn only the risk free rate. However, due to existence of imperfections in the market, this strategy can be used to profit on the mispricing in the market. One type of this strategy is the buying of a call option that has a lower exercise price and buying a put with the higher exercise price while selling the call with the higher exercise price and selling the put with the lower exercise price. The value of this box spread at expiration is given by:

Value = max (0, ST – X1) – max (0, ST – X2) + max (0, X2 – ST) – max (0, X1 – ST)

In this case, two of the four options would definitely expire in the money while two would expire out of money. The holder of the box spread basically ends up with the purchase of the underlying with the exercise of one option (either the long call at X1 or the short put at X1) while at the same time, the investor also sells the underlying asset through either the long put at X2 or through the short call at X2. The net effect is that the investor buys the asset at X1 and sells it X2. If the markets are efficient, only the risk free rate would be earned else the anomalies in the pricing of the security would be gained.

   Related Questions in Corporate Finance

  • Q : Earnings management What do you mean by

    What do you mean by Earnings management and what are their actions and activities?

  • Q : Estimate stock's current price A

    A company currently pays a dividend of $3.75 per share, D0 = 3.75. It is estimated that the company's dividend will grow at a rate of 15% percent per year for the next 2 years, then the dividend will grow at a constant rate of 7% the

  • Q : Long-Term Debt What are Long-Term Debt

    What are Long-Term Debt and what are their main parts.

  • Q : Explain merits and demerits of standard

    Explain merits and demerits of standard market practice to find the volatility as a function of underlying.

  • Q : Low-discrepancy sequence or quasi

    Who proposed definition and development of low-discrepancy sequence theory or quasi random number theory?

  • Q : Which capital structure must consider

    Which capital structure must we consider when estimating the WACC for a subsidiary valuation: the one which is reasonable according to the risk of the subsidiary’s business that the average of the company or the one the subsidiary as “tolerates/per

  • Q : Explain method to analyze and to value

    Are there any methods to analyze and to value seasonal businesses?

  • Q : Problem on Decision variables A factory

    A factory has three distinct systems for making similar product: System 1: Worker runs 3 machines of type-A, each of which costs $20 per day to run, each generates 100 units per day and the worker is paid $40 per day.System 2

  • Q : Marketing Decisions & Profitability

    Marketing Decisions Assignment:  Email the answers to the following questions in an attached word document using the proper file name format as follows:  1   

  • Q : Financial problem regarding acquistion

    My Company paid an extremely higher price for the acquisition of other company; the price was recommended through the valuation of an investment bank. Now we have financial problems. So is there any way to make this bank legally responsible for such situation?