In a financial market a stock is traded with a current price of 50. Next period the price of the stock can either go up with 30 per cent or go down with 25 per cent. Risk-free debt is available with an interest rate of 8 per cent. Also traded are European options on the stock with an exercise price of 45 and a time to maturity of 1, i.e. they mature next period. 1. Find prices of Arrow-Debreu securities.
In a financial market a stock is traded with a current price of 50. Next period the price of the stock can either go up with 30 per cent or go down with 25 per cent. Risk-free debt is available with an interest rate of 8 per cent. Also traded are European options on the stock with an exercise price of 45 and a time to maturity of 1, i.e. they mature next period.
1. Find prices of Arrow-Debreu securities.
2. Calculate the price of a call option by constructing and pricing a replicating portfolio.
3. Calculate the price of a put option by RNVR.
4. Does put-call parity hold? Explain.
5. Construct one long strap and one long straddle using any options from previous part. Sketch the
Step by step
Solved in 4 steps
