Chapter 03 · Section 3.1
Binomial Pricing Question 7
XYZ costs 185.90. Knowing that the probabilities for a rise or fall are 50 % and that the risk free interest rate is 10%, what is the value of the call with an exercise price of 100 at the end of the second period?
a) +94.99
b) -95.00/99999
c) -0.01/94.98
d) -104.49
e) -0
f) --999999/-1
The possible option values, at the end of the 2nd period, are a function of the risk free interest rate during the period in question (10%), the option values at the following period and the probability of attaining these values.
The calculation is performed in the following manner: (1/(1+interest rate)) x {(3rd period value of call x probability of attaining that value) + (3rd period value of call x probability of attaining that value)}.