21b - 8/7/2011 Chapter 21 (Part 2) 21 (Part 2) Option...

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8/7/2011 1 Chapter 21 (Part 2 Chapter 21 (Part 2) Option Valuation Today: Chapter 21 (Part 2) – Binomial Option Pricing, Synthetics, Portfolio Insurance Tuesday:Chapter 21 (Part 3) – Black-Scholes Binomial Model Review Pricing a 1-binomial period call option. Example 1 (1) Solve for hedge ratio, H. (2) Form risk-free hedge. (3) Appeal to the NAC. 100 S 1 1 130 20 S C (1) Solve for hedge ratio: (2) Form risk-free hedge:  0 0 110 1 CX , T 1 1 80 0 S C call price spread 20 0 04 stock price spread 130 80 H.  Long 0 4 shares of stock . (2) Form risk free hedge: (3) Appeal to the NAC: Short 1 call option   01 1 Hf H Vr V   0 04 100 32 .C .   0 40 10 91 C. . 
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8/7/2011 2 2 Call Options with ( X = 110, T = 1) 0 0 100 606 S C. 1 1 120 10 S C 1 90 S 1 0 C 0 0 10 91 S 1 1 130 20 S C 80 S 1 1 0 C Asymmetrical Effect of Increased Variance C T X S T
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8/7/2011 3 C T Asymmetrical Effect of Increased Variance X S T Pricing a 1-Binomial Period Put Option (1) Solve for hedge ratio, H. Example 2 (2) Form risk-free hedge. (3) Appeal to the NAC. 100 S 1 1 120 0 S P (1) Solve for hedge ratio: (2) Form risk-free hedge:  0 0 105 1 PX , T 1 1 90 15 S P put price spread 15 0 05
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21b - 8/7/2011 Chapter 21 (Part 2) 21 (Part 2) Option...

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