Consider a 1-step binomial model, where there are two possible time evolution H,T and a stock...

  

Transcribed Image Text:

Consider a 1-step binomial model, where there are two possible time evolution H,T and a stock with current price So = 100 and time-1 price S,(H) = 120, SI(T) = 90. Assume one-time interest rate r = 3% during [0, 1]. Consider a European call option on this stock with strike price K = 110. !! (i) Consider the following portfolio (Ao shares of the stock] + IShort one call option with strike 110 and maturity 11. (2) Compute the value of Ao such that the above portfolio is perfectly hedged. From this, find the current value c= cu0 (0. 1) of the European call option. (ii) Consider the following portfolio (Ao shares of the stock] + [x cash). (3) Compute the value of Ao and x such that the above portfolio replicates one long call option. From this, find the current value c C10(0, 1) of the European call option. Consider a 1-step binomial model, where there are two possible time evolution H,T and a stock with current price So = 100 and time-1 price S,(H) = 120, SI(T) = 90. Assume one-time interest rate r = 3% during [0, 1]. Consider a European call option on this stock with strike price K = 110. !! (i) Consider the following portfolio (Ao shares of the stock] + IShort one call option with strike 110 and maturity 11. (2) Compute the value of Ao such that the above portfolio is perfectly hedged. From this, find the current value c= cu0 (0. 1) of the European call option. (ii) Consider the following portfolio (Ao shares of the stock] + [x cash). (3) Compute the value of Ao and x such that the above portfolio replicates one long call option. From this, find the current value c C10(0, 1) of the European call option.

Answer rating: 100% (QA)

i The Portfolio consisting of long position in 0 shares and short position in 1one call option is pe... View the full answer