A stock is currently trading at $100.In each period of a binomial tree,the stock will either increase in price by a factor of $u = 1.05$ or fall by a factor of $d = 0.90$ .The risk-free rate per period of the binomial tree is 0.1668%,i.e. ,an investment of a dollar at the risk-free rate returns $1.001668 after one period.What is the risk-neutral probability of the stock finishing in the money on a 100-strike,two-month call option?
A)0.46
B)0.50
C)0.89
D)0.90

Question

Quizplus · Accepted Answer

The risk-neutral probability is the probability that makes the expected value of the option equal to its current price. In this case, the option is in the money, so its expected value is positive. The risk-neutral probability is therefore greater than 0.5. The only choice that is greater than 0.5 is A, so the correct answer is A.

A Stock Is Currently Trading at $100 u=1.05u = 1.05u=1.05 Or Fall by a Factor Of

A Stock Is Currently Trading at $100 $u = 1.05$ Or Fall by a Factor Of