Consider a 3-month put option. Suppose that the underlying stock price is $25, the strike $26, the interest rate is 5% p.a., stock volatility is 6% per month. Use the same data to answer questions a) - h).

a)What is the level of annual volatility (compute)?

b)Define implied volatility.

c)How would you compute implied volatility? Explain (no need to compute).

d)What is the probability of stock price goingdown(Note: use annual volatility, number of steps in a tree isN=3)?

e)Build the binomial tree for the underlying asset (stock). Note: the tree nodes can be edited. Show computations for first up and first down nodes.

f)Compute the price of the European put option using a 3-step binomial tree. Show computations for terminal and two non-terminal nodes.

g)If the market price on the European put option is $1.5, what should be the price of the European call option of the same strike and maturity to prevent arbitrage?

h)Compute the price of the American put option using a 3-step binomial tree. Show computations for two non-terminal nodes.