Question

# 1. You buy a stock for 50. At the same time you sell a call option on the stock with an exercise price of

55. Draw the pay-off diagram for this investor position, which is called a covered call. What might be the purpose of this position?

2. A stock's present value is 50. Assume that the price will increase by 15% or drop by 10% during the next year. The risk free interest rate is 3% per year. Use the binomial model and calculate the present values of a call option and a put option on the stock with 45 as a exercise price. The option expires after 1 year.

3. A stock's present value is 60. The exercise price is 60. The risk-free interest rate is 3% per year. Annual volatility is 40% and time to maturity is two years. Draw a binomial tree using two steps (2 years) and calculate the value of a call option and a put option using the binomial model.