Homework Answers
a). The two possible stock prices are:
S+ = $125 and S– = $75. Therefore, since the exercise price is $100, the corresponding two possible call values are:
Cu= $125 - $100 = $25 and Cd= $75 - $100 = $0
Hedge Ratio = (Cu– Cd)/(uS0– dS0) = (25 – 0)/(125 – 75) = 25/50 = 0.5
b). Since the exercise price is $90, the corresponding two possible call values are:
Cu= $125 - $90 = $35 and Cd= $75 - $90 = $0.
Hedge Ratio = (Cu– Cd)/(uS0– dS0) = (35 – 0)/(125 – 75) = 35/50 = 0.7
c). Since the exercise price is $110, the corresponding two possible call values are:
Cu= $125 - $110 = $15 and Cd= $75 - $110 = $0.
Hedge Ratio = (Cu– Cd)/(uS0– dS0) = (15 – 0)/(125 – 75) = 15/50 = 0.3
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