Consider the following binomial tree. The numbers in squares are stock prices. The numbers you will calculate for the circles are option prices. Today, the stock is at 100 and can go up and down over the next week, and then again up and down from there. We are pricing a call struck at 110. Enter your answers for the three payoffs of the call at expiry (the last time layer) by using in the next questions corresponding to the numbers inside the circles below.

Use the computed q to sweep back through the tree to fill the call values in circles. For each node use the formula: C = q C_u + (1-q) C_d. Ignore Interest.

Q#1

Today, the delta (hedge ratio) is = (Cu-Cd)/(Su-Sd) = ___________________ (decimal fraction)

Q#2

Todays call premium is: $ ________________

Q#3

Interpret the delta. If you sell a call option on one hundred shares, the delta hedge will require you to buy ___________________ shares of stock (as in like how many)

Q#4

At the same time, the delta hedge will require you to borrow $ _________________ (Bear in mind that you are collecting a premium for options on one hundred shares and buying the requisite number of shares).

100 #17 110 #15 90 #16 #12 120 100 #13 80 #14