QUESTION 8 [5+2+2 = 9 MARKS] Steve Rogers owns 2,000 shares of CBA stock, listed on the ASX. Today is June 10, 2022 and CBA is currently trading at $105 per share. Because of the current drop in the banking sector, Steve is worried about further declines over the next 6 months. Steve is, thus, considering trading American put options on CBA with a strike of $100 to protect his position. As a financial intermediary, you are willing to write the options to Steve. You expect the volatility of CBA to be 8% per month. Also, CBA is expected to pay a dividend of $2 in 3 months from today and a dividend of $1.8 in 9 months from today. With the market expectation of increasing cash rates, you expect the continuously compounded risk-free rate to increase from 0.5% p.a. to 1.5% p.a. in 4 months from today, and, then, stay at that level until the end of the year. Assume each option is written on one share of CBA stock. Note: Round u and d to 6 decimal digits. Round the number of securities to the nearest integer. For all other calculations, round to 4 decimal digits. Please show all your detailed workings. a) Use a three-step binomial tree to calculate the option price. b) What do you need to do in order to delta hedge your position at the time the options are written? Be specific about the necessary hedging strategy. c) If CBA stock price increases in the two months after the options are written, how would you keep your position delta hedged? Be specific about the necessary hedging strategy. QUESTION 8 [5+2+2 = 9 MARKS] Steve Rogers owns 2,000 shares of CBA stock, listed on the ASX. Today is June 10, 2022 and CBA is currently trading at $105 per share. Because of the current drop in the banking sector, Steve is worried about further declines over the next 6 months. Steve is, thus, considering trading American put options on CBA with a strike of $100 to protect his position. As a financial intermediary, you are willing to write the options to Steve. You expect the volatility of CBA to be 8% per month. Also, CBA is expected to pay a dividend of $2 in 3 months from today and a dividend of $1.8 in 9 months from today. With the market expectation of increasing cash rates, you expect the continuously compounded risk-free rate to increase from 0.5% p.a. to 1.5% p.a. in 4 months from today, and, then, stay at that level until the end of the year. Assume each option is written on one share of CBA stock. Note: Round u and d to 6 decimal digits. Round the number of securities to the nearest integer. For all other calculations, round to 4 decimal digits. Please show all your detailed workings. a) Use a three-step binomial tree to calculate the option price. b) What do you need to do in order to delta hedge your position at the time the options are written? Be specific about the necessary hedging strategy. c) If CBA stock price increases in the two months after the options are written, how would you keep your position delta hedged? Be specific about the necessary hedging strategy