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    Hedging and Risk-neutral probability

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    13. Consider a six-month put option on a stock with a strike price of $32. The current stock price is $30 and over the next six months, it is expected to rise to $36 or fall to $27. The risk-free interest rate is 6%. What is the risk-neutral probability of the stock rising to $36?
    a. 0.365
    b. 0.415
    c. 0.435
    d. 0.465
    e. 0.664

    14. Consider a six-month put option on a stock with a strike price of $32. The current stock price is $30 and over the next six months, it is expected to rise to $36 or fall to $27. The risk-free interest rate is 6%. What position in the stock is necessary to hedge a long position in one put option?
    a. Short 0.444 shares
    b. Long 0.444 shares
    c. Short 0.555 shares
    d. Long 0.555 shares
    e. None of the above

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    https://brainmass.com/economics/risk-analysis/hedging-and-risk-neutral-probability-187088

    Solution Preview

    13. Answer is c 0.435
    S0=30
    X=32
    Su=36
    Sd=27
    u=36/30=1.20
    d=27/30=0.90
    (1+r)T = 1.03
    In a risk neutral world, the expected ...

    Solution Summary

    The following problem answers two conceptual questions on derivative pricing and hedging. Step by step calculations are given.

    $2.19