Introduction

Selling (or writing) a put option involves agreeing to buy the underlying asset at the strike price if the option is exercised by the buyer. This strategy can be used for income generation or to acquire assets at a favorable price. However, it also involves certain risks.

Possible Outcomes

Option Expires Worthless

If the market price of the underlying asset remains above the strike price, the put option will expire worthless. In this case, you keep the premium received from selling the option.

Option is Exercised

If the market price falls below the strike price, the buyer may exercise the option. You will be required to buy the underlying asset at the strike price, which could be higher than the current market price, resulting in a potential loss.

Risk and Reward

Selling a put option can provide a steady stream of income from the premiums received. However, the risk is that you may end up purchasing the underlying asset at a higher price than its market value.

Conclusion

Selling put options can be a profitable strategy when used correctly, but it requires careful risk management. Understanding the potential outcomes and the associated risks is crucial before engaging in this type of transaction.

Perpetuity Calculation in Excel

Basic Theory

A perpetuity is a financial instrument that pays a consistent amount over an indefinite period. The formula for calculating the present value (PV) of a perpetuity is:

PV = C / r

Where:

• C = Cash flow per period
• r = Discount rate (interest rate per period)

Procedures

1. Determine the annual cash flow (C).

2. Identify the discount rate (r).

3. Use the perpetuity formula to calculate the present value.

Scenario with Real Data

Consider a perpetuity that pays $2,000 annually with a discount rate of 5%.

    C = $2,000
    r = 5% (or 0.05)

The calculation would be:

PV = 2000 / 0.05
     = $40,000

The present value of this perpetuity is $40,000.

Excel Table Explanation

You can set up an Excel table to perform these calculations:

The formula in the Present Value cell (C2) calculates the present value of the perpetuity.

Alternative Approaches

1. Growing Perpetuity: If the cash flow grows at a constant rate (g), the formula becomes:

PV = C / (r - g)

2. Variable Discount Rate: Adjust the discount rate periodically based on market conditions.