Ch16HullFundamentals6thEd

Ch16HullFundamentals6thEd - Binomial Trees in Practice...

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Fundamentals of Futures and Options Markets , 6 th Edition, Copyright © John C. Hull 2007 16.1 Binomial Trees in Practice Chapter 16
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Fundamentals of Futures and Options Markets , 6 th Edition, Copyright © John C. Hull 2007 16.2 Binomial Trees Binomial trees are frequently used to approximate the movements in the price of a stock or other asset In each small interval of time the stock price is assumed to move up by a proportional amount u or to move down by a proportional amount d
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Fundamentals of Futures and Options Markets , 6 th Edition, Copyright © John C. Hull 2007 16.3 Movements in Time t (Figure 16.1 ) Su Sd S p 1 –
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Fundamentals of Futures and Options Markets , 6 th Edition, Copyright © John C. Hull 2007 16.4 Risk-Neutral Valuation We choose the tree parameters p , u , and d so that the tree gives correct values for the mean and standard deviation of the stock price changes in a risk-neutral world.
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Fundamentals of Futures and Options Markets , 6 th Edition, Copyright © John C. Hull 2007 16.5 1. Tree Parameters for a Nondividend Paying Stock Two conditions are e r t = pu + (1– p ) d σ 2 t = pu 2 + (1– p ) d 2 – [ pu + (1– p ) d ] 2 A further condition often imposed is u = 1/ d
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Fundamentals of Futures and Options Markets , 6 th Edition, Copyright © John C. Hull 2007
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Ch16HullFundamentals6thEd - Binomial Trees in Practice...

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