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#1
10-31-2007, 09:11 AM
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Annualized forward premium
If a stock pays no dividends, is the annualized forward premium = 1?
I thought I read this in the DM textbook, but Broverman problem set 16 #2 part a) has a different answer. The solution calculates it using the regular formula. 
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#2
10-31-2007, 09:59 AM
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Not exactly sure what you mean, but if a stock pays no dividends then the forward price is
F = S0 exp[r T]. [However the prepaid forward price would just be the stock price, which may be what you were thinking of?]
__________________
The Poisson distribution wasn't named after a fish -- it was named after a man ... who was named after a fish.
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#3
10-31-2007, 11:09 AM
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Quote:
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#4
10-31-2007, 11:42 AM
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Yes, Broverman uses the standard formula for finding the annualized fwd premium, which is
(1/T) ln (Fwd price/Stock price). So for this problem, 100 is the stock price, 108.33 is the forward price (using 8% contiuous risk-free rate), and T is 1. So you get .08 for the annualized forward premium. However... I thought I read in DM that a stock with no dividends has an annualized fwd premium of 1.
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#5
10-31-2007, 11:49 AM
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I don't have the text with me, but that makes sense, since annualized forward premium = r-delta and since there are no dividends, delta=0 => annualized forward premium = r.
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#6
10-31-2007, 12:41 PM
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Would you guys recommend using Hull for some of this stuff because he covers a lot on forwards and swaps...
He mentions how to price forward contracts given no dividends, dividends = D, investment income as a percentage, currencies, and value FRA's at any point between t = 0 and time of delivery...
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#7
10-31-2007, 01:11 PM
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I haven't looked at any materials from Hull. I have been using BPP (Francis and Ruckman), Broverman, and the DM text (McDonald). I like BPP the best (for the interest theory), and I prefer Broverman to McDonald for the derivatives material.
Back to my original question... it seems if you use the prepaid forward price in the calculation of forward premium, you will always get 1 if the stock pays no dividends. But by using the forward price, you will not get 1 for the forward premium on a stock that pays no dividends. Does anyone agree with this?
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#8
10-31-2007, 01:45 PM
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The forward premium is by definition 1/T * ln(F0,T / S0) so I don't think putting the prepaid forward price in there would ever make sense...
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