A strip is a combined option consisting of a European call and two European put options....
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A strip is a combined option consisting of a European call and two European put options. More precisely, a strip consists of a long-position (we are the buyer of the option) in a European call option with strike K>0, and two long-positions in European Put options with the same strike price K. We assume that both options are written on the same stock and have the same maturity. (a) Determine the payoff of the strip when the price of the stock at maturity is S, and draw a payoff diagram of the strip. (b) Consider the two-period binomial model. We assume that the bond B, has an interest rate r= 0.1. Furthermore, we assume T = 2, So = Bo = 53, u = 1.2, d= 0.8, P[SuSo] 0.72 and P[S = d.So] = 0.28. We now consider a strip with strike prices K = 60 written on the stock S, with maturity T = 2. (i) Determine the risk neutral probability p*. (ii) Determine the arbitrage free price of the strip. [3] (iv) Leto be a replicating strategy for the strip. Determine the value of the portfolio V (o) for all 0 t 2. [1] (iii) Explain what it means that a contingent claim is replicable and explain why the strip is replicable in this model... [3] [4] A strip is a combined option consisting of a European call and two European put options. More precisely, a strip consists of a long-position (we are the buyer of the option) in a European call option with strike K>0, and two long-positions in European Put options with the same strike price K. We assume that both options are written on the same stock and have the same maturity. (a) Determine the payoff of the strip when the price of the stock at maturity is S, and draw a payoff diagram of the strip. (b) Consider the two-period binomial model. We assume that the bond B, has an interest rate r= 0.1. Furthermore, we assume T = 2, So = Bo = 53, u = 1.2, d= 0.8, P[SuSo] 0.72 and P[S = d.So] = 0.28. We now consider a strip with strike prices K = 60 written on the stock S, with maturity T = 2. (i) Determine the risk neutral probability p*. (ii) Determine the arbitrage free price of the strip. [3] (iv) Leto be a replicating strategy for the strip. Determine the value of the portfolio V (o) for all 0 t 2. [1] (iii) Explain what it means that a contingent claim is replicable and explain why the strip is replicable in this model... [3] [4]
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