Calculate the price of a derivative contract

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Reference no: EM132975036

Question - A non-dividend paying stock has a current price of $0.8. In any unit of time (t, t+1) the price of the stock either increases by 25% or decreases by 20%. $1 held in cash between times t and t+1 receives interest to become $1.04 at time t+1. The stock price after t time units is denoted by St.

Required -

i. Calculate the risk-neutral probability measure for the model.

ii. Calculate the price (at t=0) of a derivative contract written on the stock with expiry date t = 2 which pays $10 if and only if S2 is not $0.8 (and otherwise pays 0).

Reference no: EM132975036

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