A European option
A European option is an option contract that defines the time frame and limits the execution to its expiration date to the call or put option, the holder of an option buys the underlying asset or sells it at a specific strike price which comes at the premium. For an investor to benefit from a call option, the stock’s price has to be greater than the strike price to cover the option premium cost. For an investor to gain from a put option, the stock’s price has to be less than the strike price. The price of the call equals to that of the put when their strike price, expiration date and underlying asset are the same.
Hedging is an investment process that protects finances from risk like asset losing its value and the loss is the known, the components of the hedge portfolio in binomial pricing are Call option, Risk free asset, Put option and stock, most investors use derivatives as a means of hedging. Put option is hedged by selling the call option and risk free asset or buying the stock where the prices may go up. Call option is hedged by selling put option and stock or buying Risk free asset to prevent losing everything.
A pull call parity brings the relationship between the prices of the European put options and call options having the same underling asset, expiration date and the strike price
Price of the European call option + Present value of the strike price=Price of the European put+ current market value of the underlying asset.
Increasing the put price profits the investor by; firstly, reducing the stock price and the investor sells that expensive put option and buys a call. Secondly, call price rises and the investor invests in a call. Lastly, the bond price rises and the investor invest in the bond