Binomial model to estimate the current value of put option

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Reference no: EM131082813

Suppose that firm Ds shares are currently selling for $38. After six months it is estimated that the share price will either rise to $43.32 or fall to $33.82. If the share price rises to $43.32 in six months, six months from that date (1 year from today) the price is estimated to be either $49.38 or $38.55. If the share price falls to $33.82 in six months, six months from that date (1 year from today) the price is estimated to be either $38.55 or $30.10.

a. Sketch the tree diagram of price changes over the year.

b. Suppose that a European put option with an exercise price of $41 is written today and will expire in 1 year. If the six month risk free rate is 2.5 percent, use the binomial model to estimate the current value of the put option.

c. Use Put-Call parity to find the value of a call option written on the same shares with the same exercise price and expiration date.

Reference no: EM131082813

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