I came across a schweser example for minimum price for europian option like 110 days, it discounted using 365day risk free rate.
I thought general assumption of risk free rate is LIBOR which is 360 days. I keep discounting at 360 days and result in slight decimal error.
why do we discount at 365?
anyone?
calling for magician
I’m in class; I’ll look in tonight.
ok thanks…
Consider a call option expiring in 110 days on a non-dividend-paying stock trading at 27 when the risk-free rate is 6%. The lower bound for a call option with an exercise price of 25 is: A. $2.00. B. $1.97. C. $2.44. 27 - 25/(1.06)^(110/365) = 2.435. Answer: C
This isn’t LIBOR; if it were, you wouldn’t be compounding it.
If they want you to use LIBOR, they’ll tell you it’s LIBOR.
I see. Thank you for the tip!
My pleasure.