(a) Consider a two-period binomial setting. The current price of a stock is 80. For each...

 

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(a) Consider a two-period binomial setting. The current price of a stock is €80. For each of the next two periods, the stock will either move up by 10% or down by 10%. The risk-free rate per period is 5%. Assume that the stock pays no dividend. i. Using the risk-neutral method, price a two-period at-the-money European put. (8 marks) ii. If the put option in part i. was American, would you wish to exercise early? If so, how would this affect the option's premium? (7 marks) (b) If an investor can construct a portfolio of stocks that has a long-run mean return that is reliably above the mean return of the market, is this evidence that the investor has some skill in picking stocks? Justify your answer. (a) Consider a two-period binomial setting. The current price of a stock is €80. For each of the next two periods, the stock will either move up by 10% or down by 10%. The risk-free rate per period is 5%. Assume that the stock pays no dividend. i. Using the risk-neutral method, price a two-period at-the-money European put. (8 marks) ii. If the put option in part i. was American, would you wish to exercise early? If so, how would this affect the option's premium? (7 marks) (b) If an investor can construct a portfolio of stocks that has a long-run mean return that is reliably above the mean return of the market, is this evidence that the investor has some skill in picking stocks? Justify your answer.

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a i To price a twoperiod atthemoney European put using the riskneutral method we can build a twoperiod binomial tree and work backward First calculate ... View the full answer