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20.A tree is constructed to value an option on an index which is currently worth 100 and has a volatility of 25%. The index provides a dividend yield of 2%. Another tree is constructed to value an option on a non-dividend-paying stock which is currently worth 100 and has a volatility of 25%. Which of the following are true?
A.The parameters p and u are the same for both trees
B.The parameter p is the same for both trees but u is not
C.The parameter u is the same for both trees but p is not
D.None of the above
A.The parameters p and u are the same for both trees
B.The parameter p is the same for both trees but u is not
C.The parameter u is the same for both trees but p is not
D.None of the above
Answer: C
The formula for u is the same in the two cases so that the values of the index on its tree are the same as the values of the stock on its tree. However, in the formula for p, r is replaced by r−q.
The formula for u is the same in the two cases so that the values of the index on its tree are the same as the values of the stock on its tree. However, in the formula for p, r is replaced by r−q.
jetol49036 (29.03.2024)
Option trees are constructed differently for dividend-paying and non-dividend-paying stocks. In the case of a dividend-paying stock, the parameter u is the same for both trees, but the parameter p is not. This is because the formula for u is the same in both cases, ensuring that the values of the index on its tree are the same as the values of the stock on its tree. However, in the formula for p, r is replaced by r−q. This adjustment accounts for the dividend yield in the case of the dividend-paying stock. It's important to consider these differences when valuing options on different types of underlying assets. Also, I'd like to introduce a http://timecard-calculator.net/ to everyone. It's a useful tool for tracking work hours and managing payroll.
Flashcard info:
Author: CoboCards-User
Main topic: Finance & Investment
Topic: Derivatives
Published: 27.10.2015