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Explanation:
The value of a vulnerable option is determined using the following formula:
Value = (1 − PD) × c + PD × RR × c
= (1 − 0.06) × c + [0.06 × 0.25 × c]
= 0.955c
Value = (1 − PD) × c + PD × RR × c
= (1 − 0.06) × c + [0.06 × 0.25 × c]
= 0.955c
Q.2680 Find the value of a vulnerable option as a proportion of the value of a default-free option if the probability of default is 6% and the recovery rate is 25%.
A
96.0%
B
96.5%
C
95.0%
D
95.5%
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