Question
Consider a stock with a current price of $100 that will, over the next year, increase in value by 20% to $120 or decrease in
Consider a stock with a current price of $100 that will, over the next year, increase in value by 20% to $120 or decrease in value by 10% to $90. Assume the risk free rate is 2%.
(a): Using the binomial option pricing model, determine the value of the following European options that expire in one year: (i): A call option with a strike price of $105? (ii): A put option with a strike price of $105?
(b): Compare your answers for the call and put with a strike price of $105. Both will be worth either $0 or $15 so why are the valuations different? (Not graded just think about it)
(c): What would it cost to purchase both the call and the put with a strike price of $105. How does this compare to a certain payoff of $15 in one year?
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