The stock price of Bravo Corp. is currently $100. The stock price a year from now will be either $160 or $60 with equal probabilities. The interest rate at which investors invest in riskless assets is 6%. Using the binomial OPM, the value of a put option with an exercise price of $135 and an expiration date 1 year from now should be worth __________ today.

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andromache andromache · Answer 1 · 2020-12-25T02:20:02+01:00

Answer:

$38.21

Explanation:

The computation of the value of put option is shown below;

Hedge ratio is

= (Pay off in case price appreciates - Pay off in case of price depreciates) ÷ (Appreciated price - Depreciated price)

= (Max[$135 - $160, $0] - Max[$135 - $60, $0]) ÷ ($160 - $60)

= ($0 - $75) / $100

= -0.75

Now, Price of Put option is

= -Hedge ratio × {Appreciated price ÷ (1 + risk free rate) - Present stock price}

= -(-0.75) × {$160 ÷ (1 + 6%) - $100}

= $38.21