Question

Suppose the exchange rate is $1.95/£. Let r $ = 7%, r £ = 4%, u = 1.14, d = 0.89, and T = 0.5. Using a 2-step binomial tree, calculate the value of a $2.05-strike European put option on the British pound? Please do NOT answer with Excel. Answer Choices: A. $0.1639 B. $0.1775 C. $0.1745 D. $0.1714 E. $0.1810

EDIT: This question does not need anymore information, everything I have written is all that was provided in the original question.

Answer 1

Suppose the exchange rate is $1.95/£. Let r $ = 7%, r £ = 4%, u = 1.14, d = 0.89, and T = 0.5. Using a 2-step binomial tree, calculate the value of a $2.05-strike European put option on the British pound?

Answer: 2.53 Р 2.22 Р lp А 1.95 1.98 I-P P 1:34 1.54 we have, 6 months. (AST =0-5) European put option with K=2.05 So=1.95 and in two time steps of 3 months the stock de Can go up by u=1:14 or or down by it thit d= .0.89 Also, r=0.04 (Given for £) we need to node B and c and then we get payoff at hodet. First we need to calculate valued p. probability of stock po price going up. iey

ert_d PS U-d Ya 0-04 , t=0.5/2 20.25 u=1114 • d = d=880 0.89 204 X0:25) 0.89 やん 1-14 -0.89 1.01 -0.89 = 1.14. - 0.84 - 0.48 1-PC0.52 At Node B 2.53 0.48 B 0.52 1.98 At S=253 , we would not excercise there put option since strike price is 2.05. 2. payobb S= 1.98 option will be exercised and =0 AS pay off 2.05 -1.98 = 0.07. valueat. B = 0.48X0+.0-52 XQ07 =0.04

At node e 1.98 0.48 С 0.52 1:54 Day off at 1.980-07 pay off at 1.54 = 2:05 -1.54 -0.51 value atic -0.48x0-07:40-52X0.5) 0-30 Now, valued at node A is, ies today B=0.04 0.48 I 0.52 C =0.30 rakie of option 20:48X0.04 +0-5200.30 는이 Answer ="option D" * Please Like and support *