Question 1. (This question has two parts: I and II)

Part I.

Explain the no-arbitrage and risk-neutral valuation approaches to valuing a European option using a one-step binomial tree.

Part II.

Give two reasons that the early exercise of an American call option on a non-dividend-paying stock is not optimal. The first reason should involve the time value of money. The second reason should apply even if interest rates are zero.