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Problem 3. Consider an asset whose current price is $50 and is not expected to pay dividends. Each period its price can either rise by
Problem 3. Consider an asset whose current price is $50 and is not expected to pay dividends. Each period its price can either rise by 15% or fall by 5%. The risk free rate is 4% per period. (a) What is the price of a European Call option on this asset if it has an exercise price of $48 and matures in two periods? (b) Demonstrate how you can price a European Put option on this asset with an exercise price of $52 that expires at the end of Period Two by constructing self-financing replication portfolios. Problem 3. Consider an asset whose current price is $50 and is not expected to pay dividends. Each period its price can either rise by 15% or fall by 5%. The risk free rate is 4% per period. (a) What is the price of a European Call option on this asset if it has an exercise price of $48 and matures in two periods? (b) Demonstrate how you can price a European Put option on this asset with an exercise price of $52 that expires at the end of Period Two by constructing self-financing replication portfolios
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