Consider an American Put option with time to expiry of 5 months and a strike price of 88. The current price of the underlying stock is 82. Divide the time to expiry into five 1-month intervals. In each interval, the stock price can either rise by 3, or fall by 3, with unknown probability. The risk-free rate is 4.2% per annum, continuously compounded. Use Binomial Model. (a) What is the evolution of the prices of the underlying asset in time? Show it on a binomial tree. (b) What are the terminal values of the option. Provide all necessary calculations (c) Is early exercise rational for the holder of this option? If so when. Explain. Provide all necessary calculations. (d) What is the value of the option. Provide all necessary calculations. [1
Consider an American Put option with time to expiry of 5 months and a strike price of 88. The current price of the underlying stock is 82. Divide the time to expiry into five 1-month intervals. In each interval, the stock price can either rise by 3, or fall by 3, with unknown probability. The risk-free rate is 4.2% per annum, continuously compounded. Use Binomial Model. (a) What is the evolution of the prices of the underlying asset in time? Show it on a binomial tree. (b) What are the terminal values of the option. Provide all necessary calculations (c) Is early exercise rational for the holder of this option? If so when. Explain. Provide all necessary calculations. (d) What is the value of the option. Provide all necessary calculations. [1
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
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Transcribed Image Text:Consider an American Put option with time to expiry of 5 months and a strike price of
88. The current price of the underlying stock is 82. Divide the time to expiry into five
1-month intervals. In each interval, the stock price can either rise by 3, or fall by 3,
with unknown probability. The risk-free rate is 4.2% per annum, continuously
compounded. Use Binomial Model.
(a) What is the evolution of the prices of the underlying asset in time? Show iton
a binomial tree.
(b) What are the terminal values of the option. Provide all necessary calculations
(c) Is early exercise rational for the holder of this option? If so when. Explain.
Provide all necessary calculations.
(d) What is the value of the option. Provide all necessary calculations. [I
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