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Fair price of a put struck at 4 on a dice product

Question

A contract settles at the product of two fair dice rolls. What is the fair value of a put on it with strike 44, paying max⁡(4−product,0)\max(4-\text{product},0)?

Short answer

1/41/4. The put pays only when the product is 11 (one way, paying 33), 22 (two ways, paying 22) or 33 (two ways, paying 11). Its expected payoff is (3+4+2)/36=14(3+4+2)/36=\tfrac14.

Adapted from QuantQuestions.io; question and answer rewritten by SelfMadeQuant.com.

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