Hi Everyone.
I had a ques re state prices and state price deflators. I've noticed that when calculating state prices, when we have the up and down step, we multiply by 2 since it could be up then down or down then up. With state price deflators, we only use the 2 when calculating the derivative value, ie, we do not multiply by 2 when calculating the deflators, A. In this question, in order to find the real world probabilities, we multiply the state prices by the deflators given. I'm wondering what happens to the 2 that we used to get the second state price, ie, the one with the up and down step. It wouldn't cancel with the deflator value because the deflator doesn't usually multiply by 2.
Any help please.
Thanks.
I had a ques re state prices and state price deflators. I've noticed that when calculating state prices, when we have the up and down step, we multiply by 2 since it could be up then down or down then up. With state price deflators, we only use the 2 when calculating the derivative value, ie, we do not multiply by 2 when calculating the deflators, A. In this question, in order to find the real world probabilities, we multiply the state prices by the deflators given. I'm wondering what happens to the 2 that we used to get the second state price, ie, the one with the up and down step. It wouldn't cancel with the deflator value because the deflator doesn't usually multiply by 2.
Any help please.
Thanks.