Question

Asked Nov 5, 2019

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The current price of XL Corporation stock is $40. In each of the next two years, this stock price can either go up by $15.00 or go down by $15.00. XL stock pays no dividends. The one-year risk-free interest rate is 15% and will remain constant.

Using the binomial pricing model, calculate the price of a two-year American straddle option on XL stock with a strike price of $40.

Step 1

**Calculate the probabilities: **

p is 57.37% and 1-p is 42.63%.

Step 2

**Create a binomial model: **

Step 3

**Calculate the Price of the Option:**

Note that 2.71828 denotes the numerical value of exponential (e).

**Excel Spreadsheet:**

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