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Consider a stock that is currently priced at Sl 0 0 . Over the next two periods each period couldrepresent, for example, three months )
Consider a stock that is currently priced at Sl Over the next two periods each period couldrepresent, for example, three months the stock price can either go up by u or go downby d in each period. The riskfree interest rate is per annum. You are tasked withvaluing a European put option on this stock with a strike price of SlOu and a maturity that coincides with the second Deriod Construct the Binomial TreeDetermine the stock prices at each node for the two periodsCalculate the pavott ot the put option at each terminal node.. Backward InductionUse the riskneutral probabilities to value the option at each node, starting from the terminal nodes and working backward to the initial node.Calculate the riskneutral probability p ris the riskfree rate, and A is the time per period Option ValuationDerive the value of the European put option at the initial node using the discounted expected payoff under the riskneutral measure.Give a Financial Interpretation.
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