Binomial tree to estimate the option value and hedge ratio

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Reference no: EM131502836

A 9-month American put option with an exercise price of $1250 is written on a stock whose current price is $1245. The stock will distribute a 0.5% cash dividend six months from now. The risk-free interest rate is 1% and the stock's volatility is 16% per annum.

a. Please use a three-step binomial tree to estimate the option value and the hedge ratio. (Hint: build the tree in spreadsheet to calculate the option value).

b. However, if everything else is the same, what percentage dividend would imply a price of $75 for the American option? (Hint: use the tree in part a to find the correct percentage dividend by trial and error.)

c. Also, if everything else is the same, what volatility would imply a price of $75 for the option? (Hint: as in part b)

Reference no: EM131502836

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