Answered You can hire a professional tutor to get the answer.
Assume that today's spot exchange rate is $1. Also assume that every week, the dollar will either appreciate or depreciate against the euro by 2%...
Assume that today's spot exchange rate is $1.20/€.
Also assume that every week, the dollar will either appreciate or depreciate against the euro by 2% (note: a 1% appreciation would result in an exchange rate of $1.20/€ * 1/(1.01) = $1.188.../€). Assume that these are the only two possible things that can happen. For simplicity, you may also assume that you can borrow or lend at a rate of 0%.
Consider a call option on the euro with a strike price of $1.20/€ that matures in 1 week.
a. What possible payoffs can it have?
b. Assume that you long or short a futures contract on the euro at a price of $1.20/€ for any maturity. Can you make a portfolio using a futures contract that will mimic the payoffs of the option at every possible outcome? Hint: You will need to borrow or lend in addition to the future.
