Consider a European Call and a European Put option on a stock trading at a price of 57. The exercise price of either option is 55 and the time to maturity is 21.6 months. The stocks volatility (sigma) is 0.89 per annum, and the risk free interest rate is 7.8% per annum, continuously compounded. Use a five step binomial model to find the current fair values of the call and put options. *interest rates are expressed as annualized rates for the term specified.
1. What are the six risk neutral probability weights from top to bottom of stock price realizations at maturity?
2. What are the six values (cash flows) of the Call option from top to bottom at maturity?
3. What are the six values (cash flows) of the Put option from top to bottom at maturity?
4. Write the current fair value of the European Call
5. Write the current fair value of the European Put
6. What is the value of "u"?
7. What is the value of "p"? Show work.