Consider a stock with current stock price of $20 and a European call option on the stock
with strike price of $21 and 50 days to expire (T = 50/365).
The following information is also available:
• The stock is not paying any dividend (\delta = 0)
• The expected annual rate of return (continuously compounding) on the stock is
20% (\alpha = 20%) and its volatility is 50% (\sigma = 50%).
• Annual continuously compounding risk-free interest rate is 5% (r = 5%)
a. Use n = 1, 5, 10, 25, 50, or 100 (correspondingly, h = 50/365, 10/365, 5/365, 2/365,
1/365, or 0.5/365) in binomial option model to calculate the option value. Take the riskneutral pricing approach instead of constructing the complete binomial trees.
b. Use the Black-Scholes formula to calculate the option value.