Consider an n = 1 step binomial tree with T = .5. Suppose r, the annualized risk-free rate is 8 %, and delta, the annualized dividend rate is 7 %. Also suppose the annualized standard deviation of the continuously compounded stock return, sigma, is 45 %. Suppose further that the initial stock price, S = $ 90; and that the strike price K is $ 122. Suppose you observe a call price of $ 0.852, which is lower than the price for the European call option that you computed using the 1-step binomial tree method. By using the arbitrage method outlined in the book, that is, selling a synthetic call option and buying the actual call option:



a) Determine the European call premium ?



b) Determine the number of shares of stock that you'll sell ?



c) Determine the amount of money that you'll lend ?



d) Determine the risk free profit from this arbitrage opportunity ?