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In a two - step tree for a stock, suppose that over each period ( one month ) the stock price is either to rise
In a twostep tree for a stock, suppose that over each period one month the stock price
is either to rise by or fall by The stock does not pay dividends.
Assume that the monthly effective riskfree interest rate is
Consider an Asian option, which is an exotic option whose payoffs depend on the average
of certain prices of the stock over time. Early exercise of the option is not allowed.
For instance, the payoff of an Asian call option at the expiration date is:
max
where and are the price of the underlying asset today, the prices after and
months, respectively. Its payoff is otherwise defined in the same way as a standard call
option. Assume that the strike price for the Asian call option is and the stock
price today is
a Using the risk neutral valuation approach discussed in class, compute the price of
the Asian call option. Explain your steps.
b Using the replication approach discussed in class, compute the price of the Asian
call option. Explain your steps.
c In general, do Asian call and put options satisfy the putcall parity for standard
European options with the same strike and the same expiration date? Explain your
intuition without calculations.
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