Consider an American call option on a dividend paying stock when:

- the current stock price is $4.00 - the exercise price is $3.25

- the volatility is 20% p.a. - the risk free rate of interest (continuous compounding) is 15% p.a

. - the time to expiry is 3 months

- the stock is expected to pay a certain dividend of $0.75 in 1 (one and one-half) months time.

Use the Binomial Option Pricing model with the life of the option divided into three equal 1- month periods.

Required:

Use a three-period binomial model to value the three-month American call option on this stock. Remember to show detailed calculations of the option value at each node.