Consider a world with two time periods and two possible states at each time t = 0,
Question:
(a) Set up a 2 × 4 system with state prices ψij, i, j = u, d that gives the arbitrage-free prices of a savings account and of the bond B.
(b) Show how one can get risk-neutral probabilities in this setting.
(c) Show that if one adopts a savings account normalization, the arbitrage-free price of the bond will be given by
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Related Book For
An Introduction to the Mathematics of Financial Derivatives
ISBN: 978-0123846822
3rd edition
Authors: Ali Hirsa, Salih N. Neftci
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