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A European binary (or Digital) call option pays $5 if the stock ends above $60 after 3 months and nothing otherwise. The following 3-period binomial
A European binary (or Digital) call option pays $5 if the stock ends above $60 after 3 months and nothing otherwise. The following 3-period binomial tree represents the monthly stock price movements: 71.46 67.42 63.60 64.72 S(0) = 60 61.06 57.60 58.61 55.30 53.08 Assuming cont. compounded interest rate of r = 3.2% and no dividends, find the replicating portfolios for each date if the stock prices moves according to S(0) = 60 ? S(1) = 63.60 ? S(2) = 61.06 ? S(3) = 58.61 Verify that your replicating strategy is self-financing at each step. Note that you do not need to calculate the hedge positions for the entire tree (only along the path) but you need all the prices
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