Suppose that the current spot rate is S0 = USD/GBP 2 and that the one-period interest rates today are r = 5% and r* = 10%.
Also, you are given that in the next period the spot rate will either be USD/GBP 2.2 or USD/GBP 1.8.
(a) What is the value today of a one-period put option on the GBP that has a strike price of USD/GBP 1.9?
(b) Suppose that you already hold this put option. If you wish to hedge the payoff from the put, so that the net payoff of your portfolio is independent of the exchange rate, how many additional units of the spot should you buy/sell?
Please help (need formulas, calculation process and why we calculate that way).