Explore BrainMass
Share

# Derivatives, call option, Binomial tree

This content was STOLEN from BrainMass.com - View the original, and get the already-completed solution here!

1. You inherit a package of call options on a stock currently selling for \$53 (all of the call options expire in exactly one year). In a year, the stock could sell for anywhere between \$40 and \$80. The package consists of 1 call with a exercise price at \$50, 1 written call with an exercise price of \$55, one written call with an exercise price of \$60 and one call with an exercise price of \$65. Just to be clear, you have two calls and two written calls.
a. What is the payoff structure for this portfolio of options? A graph would be an appropriate way to answer this part of the question.
b. What can be known about the sum of the prices of the \$50 and \$65 calls relative to the sum of the prices of the \$55 and \$60 call? That is, is C50+C65 greater than, equal to or less than C55+C60? How do you know?

2. You observe that a stock is currently selling for \$100. Somehow you know that the two possible values for the stock at time T are \$80 and \$130. You also observe that (1+r)T = 1.1. You don't know the probabilities of the two states of the world occurring. Using the two-state approach, determine the value of a T period call option with an exercise price of \$110.

https://brainmass.com/economics/the-global-economy/derivatives-call-option-binomial-tree-130727

#### Solution Summary

Answers and explanations to 2 questions on derivatives- the first one on payoff structure for a combination of call options, the other on Binomial tree.

\$2.19