Construct a trinomial tree for the Ho and Lee model where = 0.02. Suppose that the

Question:

Construct a trinomial tree for the Ho and Lee model where σ = 0.02. Suppose that the initial zero-coupon interest rate for a maturities of 0.5, 1.0, and 1.5 years are 7.5%, 8%, and 8.5%. Use two time steps, each six months long. Calculate the value of a zero-coupon bond with a face value of $100 and a remaining life of six months at the ends of the final nodes of the tree. Use the tree to value a one-year European put option with a strike price of 95 on the bond. Compare the price given by your tree with the analytic price given by DerivaGem.

Strike Price
In finance, the strike price of an option is the fixed price at which the owner of the option can buy, or sell, the underlying security or commodity. Face Value
Face value is a financial term used to describe the nominal or dollar value of a security, as stated by its issuer. For stocks, the face value is the original cost of the stock, as listed on the certificate. For bonds, it is the amount paid to the...