FRM Part II · FRM Exam Part II · Hedge Fund Investment Strategies
A cash tender offer for Target Co. is $50.00 per share. The stock trades at $48.00. If the deal fails, the price is expected to fall to $36.00. The deal is expected to close in 6 months. The market-implied probability of completion, ignoring time value, is closest to:
The implied completion probability is about 85.7%. Solving 48 = p×50 + (1−p)×36 gives p = 12/14. This uses both the upside to the offer price and the downside to the break price, rather than simply the percentage spread.
- A50.0%
- B85.7%Correct
- C92.3%
- D96.0%
Explanation
Set 48 = p*50 + (1-p)*36. Then 12 = 14p, so p = 0.857. Using the 4% spread over 50 (96%) ignores the downside, which is the mistake in option D.
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