1. Suppose that one year from now you will receive $100. At the end of each of the next four years you will receive a payment that is 2% bigger than the prior payment. Following year five you will receive a payment at the end of every year that is 3% larger than the prior payment. If the cost of capital is 7% what is the this stream of cash flows worth today?
2. You are an options dealer. Given a binomial model for stock prices where So=$50, Su=$60, and Sd=$40, you sell call options with strike price $55 and expiration T=1/2 year. Suppose that the annual interest rate being compounded continuously is r = 5%. Assume that you sell 100 call options for the fair market price + $0.10. What is your profit, independent of the outcome of the stock price? Show that your profit is indeed independent of the outcome of the stock price.