Final answer:
To value a 2-year American put option on Crabbe and Goyle Corporation using binomial tree analysis, you can follow a step-by-step process. This involves dividing the time period, calculating up and down factors, constructing a binomial tree, and calculating the option value at each node. By working backwards through the tree, you can determine the option value at the initial node.
Step-by-step explanation:
To value a 2-year American put option using binomial tree analysis, you need to consider the price of the underlying asset (in this case, the shares of Crabbe and Goyle Corporation), the strike price of the option (80), and the risk-free rate (5%).
The binomial tree is a lattice-based model that allows you to simulate the possible future prices of the underlying asset and calculate the option value at each node.
Here are the steps to value the option:
- Divide the 2-year period into smaller time intervals (e.g., monthly or quarterly).
- Calculate the up and down factors for each time interval based on the risk-free rate and the volatility of the underlying asset.
- Construct the binomial tree by calculating the possible future prices of the underlying asset at each node.
- Calculate the option value at each node by comparing the strike price with the future prices of the underlying asset.
- Work backwards through the tree to determine the option value at the initial node (current price of the shares).
By following these steps, you will be able to determine the value of the 2-year American put option on Crabbe and Goyle Corporation.
The complete question is:content loaded
You want to use the binomial tree analysis to value a 2-year American put option with an 80 strike price on Crabbe and Goyle Corporation. The shares are currently trading for 110. The annualized continuously compounded risk-free rate is 5