Assume that a non-dividend-paying stock has an expected return of and a volatility of . An innovative financial institution has just announced that it will trade a security that pays off a dollar amount equal to In Sr at time T, where ST denotes the value of the stock price at time T.

(a) Use risk-neutral valuation to calculate the price of the security at time t in terms of the stock price, S, at time t.

(b) Confirm that your price satisfies the differential equation (13.16).

AppendixLO1