Question
Spot Price: $66 Strike price $68 RFR 6% Binomial trees: Additionally, assume that over each of the next two four-month periods, the share price is
Spot Price: $66 Strike price $68 RFR 6% Binomial trees: Additionally, assume that over each of the next two four-month periods, the share price is expected to go up by 11% or down by 10%
a. Use a two-step binomial tree to calculate the value of an eight-month European call option using the no-arbitrage approach. [2.5 marks]
b. Use a two-step binomial tree to calculate the value of an eight-month European put option using the no-arbitrage approach. [2.5 marks]
c. Show whether the put-call-parity holds for the European call and the European put prices you calculated in a. and b. [1 mark]
d. Use a two-step binomial tree to calculate the value of an eight-month European call option using risk-neutral valuation. [1 mark]
e. Use a two-step binomial tree to calculate the value of an eight-month European put option using risk-neutral valuation. [1 mark]
f. Verify whether the no-arbitrage approach and the risk-neutral valuation lead to the same results. [1 mark]
g. Use a two-step binomial tree to calculate the value of an eight-month American put option. [1 mark]
h. Calculate the deltas of the European put and the European call at the different nodes of the binomial three. [1 mark]
Note: When you use no-arbitrage arguments, you need to show in detail how to set up the riskless portfolios at the different nodes of the binomial tree.
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