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Unformatted text preview: Math 623, W 2007: Homework 5. For full credit, your solutions must be clearly presented and all code included. (1) This problem deals with the pricing of the American strangle option in homework 2 using a binomial tree. The underlying stock price S t follows geometric Brownian motion with volatility = 0 . 2 (in units year- 1 / 2 ) and the interest rate is r = 3% per year, continuously compounded. The stock pays a continuous dividend yield of D = 1% per year. It is currently trading at S = 75. The option pays ( S ) if exercised when the stock price is S . Here ( S ) = 80- S if 0 S 80 if 80 < S 120 S- 120 if S > 120 . Today is t = 0. The option expires in T = 6 months. Being American, the option can be exercised at any time between t = 0 and t = T . (a) Using the Black-Scholes formulas, find the exact value of the corresponding European strangle option today....
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- Fall '08