Call Option [4]

A stock's current price is $160, and there are two possible prices that may occur next period: $150 or $175. The interest rate on risk-free investments is 6% per period.

1. Assume that a (European) call option exists on this stock having on exercise price of $155.

(a) How could you form a portfolio based on the stock and the call so as to achieve a risk-free hedge ?

(b) Compute the price of the call.

2. Answer the above two questions if the exercise price was $180.