that is, the units are yen/. On the next page is a binomial tree which gives the yen price of 1 British pound, The length of each binomial period is 0.25 year. The annual continuously compounded Japanese risk free rate is 2% and the annual continuously compounded British risk free rate is 5%. a. What are u and d? b. What is , the annual volatility of the exchange rate? c. What is p, the risk neutral probability for the exchange rate to move up each period? d. Calculate the American call price at t=0 with a strike equal to 140 yen. Show all your steps. e. What is the delta two periods from expiration of this American call? f. Suppose that two periods from expiration you observe that the American call price is 15 yen. Using only pounds and Japanese T-bills, show how you would take advantage of this. (Show the exact positions and the cash flows). S=140 170.80 114.75 208.38 140.00 94.05 transactions that may occur in real world investment. 2. Once you have set up your portfolio; hedge your portfolio using index futures contracts. In order to do this you will need to: Determine your hedging objectives Calculate the beta of your portfolio, and Work out the optimal number of positions to hedge your long stocks position. Justify the decisions and/or assumptions you make. (9 marks) Data: daily indices cash and futures prices for the relevant markets and 4 sectors over the same 4 months period 3. Hold your hedged portfolio (of stocks and index futures) for a period of two weeks. At the conclusion of this period, evaluate the effectiveness of your hedge, the reasons for its success or failure and how the outcome could be improved. Discuss if your hedging objectives have been met. (8 marks) Assessment criteria: Comparison of the result from the hedged and unhedged portfolio Effectiveness of the hedge and reasons why the hedge strategy worked/failed to work as expected Discuss how the hedge can be improved taking into account the shortcomings you identified above REPORT WRITING. Your report must document complete discussion of the process outlined above, as well as include full details of transactions executed. Transaction costs must bear evidence that it is a realistic figure. Good structure, presentation and concise