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I need to look into a one-period Binomial model $(B_t, S_t)$ with interest rate $r = 0.1$ , $S_0 = 100$ and $$ S_t= 120 \, \text{with probability}\, 0.5 $$ $$ S_t= 60\, \text{with probability}\, 0.5 $$

a) I need to show this market has no arbitrage.

b) Find the replicating portfolio for the contingent claim $X = S^2_T$.

c) Find the price of $X$ that leads to no arbitrage.

d) Find the risk-neutral measure for this market.

Now I guess that in a) I need to show that the state-price vector is positive, but how do I do that? For the rest I have no idea and would welcome your help!

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    $\begingroup$ Hint: For (b) you need a portfolio worth 14000 in the up state, 3600 in the down state. Is there any combination of stock and risk free asset that can match that? $\endgroup$ – Alex C Nov 5 at 1:50
  • $\begingroup$ for (d): the risk neutral measure should be $q_u=\frac{e^{-r\delta t}-d}{u-d}$ right? where $u=\frac{120}{100}$ and $d=\frac{60}{100}$? $\endgroup$ – Anon Nov 6 at 8:23

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