Let S = $100, K = $95, r = 8% (continuously compounded), = 30%, =
Question:
a. Verify that the binomial option price for an American call option is $18.283. Verify that there is never early exercise; hence, a European call would have the same price.
b. Show that the binomial option price for a European put option is $5.979. Verify that put-call parity is satisfied.
c. Verify that the price of an American put is $6.678.
Step by Step Answer:
a We can calculate for the different nodes of the tree Using these values at the previous node and a...View the full answer
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A call option is a type of financial contract that gives the holder the right, but not the obligation, to buy an underlying asset (such as a stock, commodity, or currency) at a specified price (called the strike price) within a specified period of time. When an investor purchases a call option, they are essentially betting that the price of the underlying asset will rise above the strike price before the option\'s expiration date. If the price of the asset does rise above the strike price, the investor can exercise the option by buying the asset at the strike price and then selling it at the higher market price, thereby earning a profit. Call options are often used as a speculative investment strategy, as they allow investors to potentially profit from the upward movement of an asset without having to actually own the asset itself. They are also commonly used as a hedging tool to protect against potential losses in a portfolio.
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