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1. A stock is currently priced at $61. The stock will either increase or decrease by 17 percent over the next year. There is a call option on the stock with a strike price of $55 and one year until expiration. If the risk-free rate is 8 percent, what is the risk-neutral value of the call option?
2. In the previous problem, assume the risk-free rate is only 5 percent. What is the risk-neutral value of the option now? What happens to the risk-neutral probabilities of a stock price increase and a stock price decrease?
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