QUESTION 2 [2+3+2+4+2 = 13 marks] This question is about the pricing of a European Lookback call option. The payoff from a European lookback call option is the amount that the final asset price exceeds the minimum asset price achieved during the life of the option. The following discretised geometric Brownian motion is the assumed underlying data generating process St+1 = S, exp[(r-q-0.50) dt + = 1410dt ] where S, is the spot price at time t. 7 is the risk free rate. q is the dividend yield. O is the annualised volatility and Z is a standard normal innovation. a) List two limitations in the Black-Scholes method of option valuation. b) Outline the key differences between monte carlo simulation and bootstrapping. c) Could a bootstrap approach be used to value the lookback call option using the risk neutral method? Why/why not? Outline how you could use monte carlo simulation to price the European Lookback call option. How could you use monte carlo to evaluate the "delta" of the European Lookback call? d) e)

QUESTION 2[2+3+2+4+2=13 marks ] This question is about the pricing of a European Lookback call option. The payoff from a Eiropean lookback call option is the amount that the final asset pince exceeds the minmm asset price achieved during the life of the option. The following discretised geometric Brownian motion is the assumed underlying data generating process St+1=Stexp[(rq0.52)dt+zt+1dt] where Sf is the spot price at time t,r is the risk free rate. q is the dividend yield, is the anualised volatility and zi+1 is a standard normal innovation. a) List two limitations in the Black-Scholes method of option valuation. b) Outline the key differences between monte carlo simulation and bootstrapping. c) Could a bootstrap approach be used to value the lookback call option using the risk neutral method? Why/why not? d) Outline how you could use monte carlo simulation to price the European Lookback call option. e) How could you use monte carlo to evaluate the "delta" of the European Lookback call