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Consider a European call option on a non-dividend-paying stock where the stock price is $40, the strike price is $40, the risk-free rate is

Consider a European call option on a non-dividend-paying stock where the stock price is $40, the strike price is $40, the risk-free rate is 10% per annum, over each of the next two 3-month periods it is expected to go up by 10% or down by 10% and the time to maturity is 6 months. a) Calculate u, d, and the risk-neutral probability p for a two-step tree. (3 marks) b) Value the option using the two-step tree and risk-neutral probability you get in a). (8 marks) c) What is meant by the "delta" of a stock option? What is the value of the delta for each step? d) Get the option value by using the delta-hedged portfolio. (6 marks) (6 marks) e) Get the European put with same strike and time to expiry by using Put-Call parity. (4 marks) f) Based on this stock consider an American put option with the strike price is $42, the risk-free rate, the time to maturity and time steps keep same, what is the premium of this option.

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a To calculate u d and the riskneutral probability p for a twostep tree u e t e010 025 10253 d e t e010 025 09753 Riskneutral probability p er t d u d ... blur-text-image

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