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Unformatted text preview: gh! Discussion of Binomial Pricing
Question 1: Why does option price not depend on the
A mechanical answer: arbitrage does not depend on
A deeper answer: information about probability already
contained in today’s stock price
Question 2: Does this mean that news about the stock price
movement will not aﬀect the price of the call option?
It will. In fact, it will aﬀect both.
Question 3: Why can we replicate the call option in this case?
Binomial assumption is the key Summary So Far We have seen how to price option in the two-period binomial
We saw two ways to do it:
1 Find replicating portfolio with two equations and two
unknowns 2 Find the stock ∆ to hedge the option position This is pretty cool: we now know how to do some complicated
pricing we didn’t know how to do before. What is next? More things we can do with this model:
1 Multi-period setting 2 Another way to compute the prices: risk-neutral pricing Risk-neutral pricing will be pretty really cool because we will be
able to think more about the economics behind the prices....
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- Spring '13