Problem:
You are attempting to value a call option with an exercise price (strike price) of $40 and one year to expiration. The underlying stock pays no dividends and its current price is $42.
Requirement:
Question 1: Is the call in or out of money today and what is its intrinsic value (i.e., exercise value) today? You believe that the stock price at expiration will be either $45 or $30. The risk-free rate of interest is 1%.
Question 2: Calculate the call's value today using the Binomial (two-state) option pricing model.
Question 3: Based on your answers on (a) and (b), what is the time value of the option today?
Question 4: What should be the value of the corresponding put, assuming the put-call parity?
Note: Please show guided help with steps and answer.