The current price of a stock is $22, and at the end of one year its price will be either $27 or $17. The annual risk-free rate is 6.0%, based on daily compounding. A 1-year call option on the stock, with an exercise price of $22, is available. Based on the binominal model, what is the option's value?
A) $2.43
B) $2.70
C) $2.99
D) $3.29
E) $3.62

Question

Quizplus · Accepted Answer

The binomial model calculates the option's value by determining the expected payoff in each scenario, discounting it back at the risk-free rate. The expected payoff is calculated using the risk-neutral probabilities, which are derived from the risk-free rate and the potential stock price movements. The option's value is the present value of these expected payoffs.

The Current Price of a Stock Is $22, and at the End