Answer: expected payoffs of the derivative can be discounted at the risk-free rate.

## Explanation In derivatives pricing, particularly under the risk-neutral valuation framework: 1. **Risk-neutral valuation** assumes that investors are risk-neutral, not risk-averse. This is a key simplifying assumption that allows for easier pricing of derivatives. 2. **Option B is correct**: Under risk-neutral valuation, the expected payoff of the derivative can be discounted at the risk-free rate. This is a fundamental principle in derivatives pricing where we calculate the present value of expected future payoffs using the risk-free rate as the discount rate. 3. **Option A is incorrect**: Investors are assumed to be risk-neutral in derivatives pricing models, not risk-averse. This assumption allows us to price derivatives without needing to estimate risk premiums. 4. **Option C is incorrect**: In risk-neutral valuation, a portfolio consisting of the underlying and the derivative must earn the risk-free rate, not the risk-free rate plus a risk premium. This is because we assume risk-neutrality, eliminating the need for risk premiums. **Key Concept**: Risk-neutral valuation simplifies derivatives pricing by assuming all investors are indifferent to risk, allowing us to discount expected payoffs at the risk-free rate rather than adjusting for risk premiums.

Author: LeetQuiz .