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Consider a two-period, two-state world. Let the current stock price be 45 and the risk-free rate be 5 percent. Each period the stock price can go either up by 10 percent or down by 10 percent. A call option expiring at the end of second period has an exercise price of 40.
Answer the following 3 questions below. PLEASE SHOW ALL WORK
1. What is the initial hedge ratio?
2. What is (are) the subsequent hedge ratio(s)?
3. Construct an example showing how the hedge works and illustrating how the hedge portfolio earns the risk-free rate in each period.
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When the initial cost of a project is less than the present value of the cash inflows, then the project should be:
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The holding period is a useful way to compare investments because it considers the time value of money. only capital gains, but not income. both income and capital gains or losses. A) the relative size of investments being compare.
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