Consider a two year (two-period) European put option where the initial price is 0 = 100 and there is assumed to be a possible 20% up or down price movement in each year. The risk free interest rate is 5% and the strike price is 104.

(a) Draw a Binomial tree to illustrate the set of possible price movements.

(b) Evaluate the payoffs to the option at the second stage terminal nodes.

(c) Use the risk neutral formula to evaluate the price of the option at the first stage nodes and thereafter at the initial node.

Answer rating: 100% (QA)

a Binomial Tree 100 120 80 144 96 96 64 b Payoffs to the option at the secondstage terminal nodes At ... View the full answer