Question 2 factor replicating portfolio (a) Orchard plc's share price, S, can either go up to SH or down to SL in the next period. Derive the price of a put option written ons in terms of a position in the stock and a risk free asset. (7 marks) So SH (b) Orchard plc's shares are currently traded at $20 each. Its share price will go up to $22 or down to $17 in three months' time. The effective interest rate for the next three months is 3%. What is the price of a put option on Orchard's share with an exercise price of $20.5? (5 marks) 1 period (c) Explain clearly why the price of a put option does not depend on the investor's risk preference and the probabilities of the future states of the economy. Determine the risk neutral probabilities of the two states of the economy in (b). (13 marks) Question 2 factor replicating portfolio (a) Orchard plc's share price, S, can either go up to SH or down to SL in the next period. Derive the price of a put option written ons in terms of a position in the stock and a risk free asset. (7 marks) So SH (b) Orchard plc's shares are currently traded at $20 each. Its share price will go up to $22 or down to $17 in three months' time. The effective interest rate for the next three months is 3%. What is the price of a put option on Orchard's share with an exercise price of $20.5? (5 marks) 1 period (c) Explain clearly why the price of a put option does not depend on the investor's risk preference and the probabilities of the future states of the economy. Determine the risk neutral probabilities of the two states of the economy in (b). (13 marks)