Question: 2. Consider a three-period binomial tree model for the non-dividend paying stock price process ST, in which the stock price either rises by u% or

2. Consider a three-period binomial tree model for the non-dividend paying stock price process ST, in which the stock price either rises by u% or falls by d% each period till maturity, Rf=e0.025 UCT- 2021 Question 2 contimues on the next page... ECO 4053S Page 2 of 6 (a) State the conditions under which this market is arbitrage free. [1 marks] Let S0=R950 and assume this price either rises or falls by 20% each year for the next three years. Assume also that the risk-free rate is 5% per annum continuously compounded. (b) Calculate the price of a Diropean put option with maturity in three years and strike price 1100. [5 marks] 2. Consider a three-period binomial tree model for the non-dividend paying stock price process ST, in which the stock price either rises by u% or falls by d% each period till maturity, Rf=e0.025 UCT- 2021 Question 2 contimues on the next page... ECO 4053S Page 2 of 6 (a) State the conditions under which this market is arbitrage free. [1 marks] Let S0=R950 and assume this price either rises or falls by 20% each year for the next three years. Assume also that the risk-free rate is 5% per annum continuously compounded. (b) Calculate the price of a Diropean put option with maturity in three years and strike price 1100. [5 marks]

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