Ch16HullFundamentals5thEd

# Ch16HullFundamentals5thEd - Fundamentals of Futures and...

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Unformatted text preview: Fundamentals of Futures and Options Markets , 5 th Edition, Copyright © John C. Hull 2004 16.1 Binomial Trees in Practice Chapter 16 Fundamentals of Futures and Options Markets, 5th Edition, 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 Fundamentals of Futures and Options Markets, 5th Edition, 16.3 Movements in Time ∆ t (Figure 16.1 ) Su Sd S p 1 – p Fundamentals of Futures and Options Markets, 5th Edition, 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. Fundamentals of Futures and Options Markets, 5th Edition, 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 Fundamentals of Futures and Options Markets, 5th Edition, 16.6 2. Tree Parameters for a2....
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Ch16HullFundamentals5thEd - Fundamentals of Futures and...

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