Valuing “Raise Your Rate” certificates of deposit

Purpose – The “raise your rate” (RYR) certificate of deposit (CD) allows investors to raise the rate on their CD to the current market rate over the life of the CD. The purpose of this paper is to present a binomial option pricing model to value this option to raise the rate. The model also demonstrates conditions under which the investor should choose to exercise their option and raise their rate prior to maturity. Understanding the value of this option is useful to both banks setting rates, and investors comparing alternative investment opportunities. The results of this model suggest that, for CDs with short maturities and low yields, the value of the option is relatively small, roughly one to four basis points, however, for CDs with longer maturities and higher yields the value of the option can be as much as 50-80 basis points. Design/methodology/approach – This paper demonstrates how to value raise your rate CDs by applying a binomial option pricing model and provides the value of this option over a range of current CD yields and over a range of CD maturities. Findings – When CD rates are low and maturities are short the value of the option is small (one to four basis points), however, when CD rates are high with longer maturities, the value of this option can be significant (50-80 basis points). Research limitations/implications – The research implication is that the rate discount that the institution offers and the investor accepts should reflect the value of the option to raise the rate. The benefit to the institution and the cost to the investor reflected in the rate discount can be determined by the procedures presented in this paper regarding the valuation of the option to raise the rate. Practical implications – The purpose of this paper is to demonstrate how to apply a binomial option pricing model to value the option that is attached to a raise your rate CD. Knowing the value of this option should be useful both to banks, in determining the discounted rate they should offer on these CDs, and to investors choosing among alternative investment opportunities. An additional benefit of applying a binomial model to value the option is that the model can be used by investors to determine the optimal point at which to exercise their option and lock in the current higher rate. Social implications – Given the recent financial turmoil, pressure has been placed on banks to increase their liquidity and deposit base. CDs are crucial to this. Understanding the value of the RYR option is useful to both banks setting rates and investors comparing alternative investment opportunities. Originality/value – Given the current economic climate, deciding which strategic investment options to pursue is of paramount importance. To the best of the knowledge this is the first study that applies binomial option pricing to certificates of deposit to help investors make these decisions.

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A new method to solve fuzzy stochastic finance problem

Journal of Economic Studies ◽

10.1108/jes-10-2020-0521 ◽

2021 ◽

Vol ahead-of-print (ahead-of-print) ◽

Author(s):

Jayanta Kumar Dash ◽

Sumitra Panda ◽

Golak Bihari Panda

Keyword(s):

Option Pricing ◽

Market Price ◽

Pricing Model ◽

Strike Price ◽

Content Type ◽

Fuzzy Environment ◽

Black Scholes ◽

Option Pricing Model ◽

A New Technique ◽

Log Normal

PurposeThe authors discuss the value of portfolio and Black–Scholes (B–S)-option pricing model in fuzzy environment.Design/methodology/approachThe B–S option pricing model (OPM) is an important role of an OPM in finance. Here, every decision is taken under uncertainty. Due to randomness or vagueness, these uncertainties may be random or fuzzy or both. As the drift µ, the degree of volatility s, interest rate r, strike price k and other parameters of the value of the portfolio V(t), market price S_0 (t) and call option C(t) are not known exactly, so they are treated as positive fuzzy number. Partial expectation of fuzzy log normal distribution is derived. Also the value of portfolio at any time t and the B–S OPM in fuzzy environment are derived. A numerical example of B–S OPM is illustrated.FindingsFirst, the authors are studying some various paper and some stochastic books.Originality/valueThis is a new technique.

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Preemption of compliance costs and the voluntary adoption of SFAS No. 123(R)

Journal of Financial Reporting and Accounting ◽

10.1108/jfra-09-2011-0012 ◽

2014 ◽

Vol 12 (1) ◽

pp. 2-20

Author(s):

Ahmed Ebrahim ◽

Bruce Bradford

Keyword(s):

Option Pricing ◽

Stock Price ◽

Price Volatility ◽

Stock Option ◽

Pricing Model ◽

Compliance Cost ◽

Compliance Costs ◽

Content Type ◽

Option Pricing Model ◽

Voluntary Adoption

Purpose – This paper aims to study a preemption proposition for the compliance costs associated with stock option expensing under SFAS 123(R) by examining whether early adopters used their discretion over option pricing model inputs to mitigate the adoption effect. Design/methodology/approach – The paper uses a matched sample approach of firms that voluntarily adopted stock option expensing during the 2002-2004 period and similar firms that waited until the mandatory expensing. The paper empirically examines some determinants of voluntary adoption, and the changes in option pricing model inputs during the period leading to mandatory expensing. Findings – The paper reports evidence that voluntary adopters of stock option expensing during the 2002-2004 period have used the period leading to mandatory expensing to preempt its compliance cost effect. The authors exercised their discretion by decreasing estimates for stock price volatility and time-to-maturity to preempt or minimize the reduction in earnings before mandatory adoption date. Originality/value – Results of this paper are useful to accounting regulators in understanding the reaction of financial statement preparers to deliberations, effective dates and voluntary early adoption terms of the accounting standards setting process.

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Modeling calendar spread options

Agricultural Finance Review ◽

10.1108/afr-09-2017-0088 ◽

2018 ◽

Vol 78 (5) ◽

pp. 551-570

Author(s):

Juheon Seok ◽

B. Wade Brorsen ◽

Bart Niyibizi

Keyword(s):

Brownian Motion ◽

Option Pricing ◽

Unit Root ◽

Pricing Model ◽

Convenience Yield ◽

Content Type ◽

New Model ◽

Spread Options ◽

Data Limitations ◽

Option Pricing Model

Purpose The purpose of this paper is to derive a new option pricing model for options on futures calendar spreads. Calendar spread option volume has been low and a more precise model to price them could lead to lower bid-ask spreads as well as more accurate marking to market of open positions. Design/methodology/approach The new option pricing model is a two-factor model with the futures price and the convenience yield as the two factors. The key assumption is that convenience follows arithmetic Brownian motion. The new model and alternative models are tested using corn futures prices. The testing considers both the accuracy of distributional assumptions and the accuracy of the models’ predictions of historical payoffs. Findings Panel unit root tests fail to reject the unit root null hypothesis for historical calendar spreads and thus they support the assumption of convenience yield following arithmetic Brownian motion. Option payoffs are estimated with five different models and the relative performance of the models is determined using bias and root mean squared error. The new model outperforms the four other models; most of the other models overestimate actual payoffs. Research limitations/implications The model is parameterized using historical data due to data limitations although future research could consider implied parameters. The model assumes that storage costs are constant and so it cannot separate between negative convenience yield and mismeasured storage costs. Practical implications The over 30-year search for a calendar spread pricing model has not produced a satisfactory model. Current models that do not assume cointegration will overprice calendar spread options. The model used by the Chicago Mercantile Exchange for marking to market of open positions is shown to work poorly. The model proposed here could be used as a basis for automated trading on calendar spread options as well as marking to market of open positions. Originality/value The model is new. The empirical work supports both the model’s assumptions and its predictions as being more accurate than competing models.

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