Find the value of a 1-year european call option

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Question

A stock price is currently $100. The risk-free interest rate is 8% per annum with continuous compounding and sigma is 30%. The stock price is expected to go up or down with u=1.3 and d=0.8 over each of the next two 6-month periods. The stock pays no dividends.

a) Use no-arbitrage arguments or a risk neutral approach to find the value of a 1-year European call option with strike price of $95.

b) If there is an American option with the same characteristics, would it be optimal to exercise the option at the initial node?

Reference no: EM133109463

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