CFA Practice Question

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CFA Practice Question

Assume a stock price is $50 and that in the next year it will either rise by 20% or fall by 10%. The risk-free interest rate is 6%. A put option on this stock has an exercise price of $50. If we use a one-period binomial model, what is the price of this put option?
A. 4.4
B. 2.52
C. 2.2
Explanation: μ = 1.2 and d = 0.9
π = (1.06 - 0.9) / (1.2 - 0.9) = 0.5333
S+ = 50 x 1.2 = 60
S- = 50 x 0.9 = 45
p+ = Max (0, 50 - 60) = 0
p- = Max (0, 50 - 45) = 5
p = (0.5333 x 0 + 0.4667 x 5) / 1.06 = 2.2

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