Binomial Option Pricing Model
The model reduces possibilities of price changes, removes the possibility for arbitrage, assumes a perfectly efficient market, and shortens the duration of the option. Under these simplifications, it is able to provide a mathematical valuation of the option at each point in time specified.
The binomial model takes a risk-neutral approach to valuation. It assumes that underlying security prices can only either increase or decrease with time until the option expires worthless. A simplified example of a binomial tree might look something like this:
Due to its simple and iterative structure, the model presents certain unique advantages. For example, since it provides a stream of valuations for a derivative for each node in a span of time, it is useful for valuing derivatives such as American options which allow the owner to exercise the option at any point in time until expiration (unlike European options which are exercisable only at expiration). The model is also somewhat simple mathematically when compared to counterparts such as the Black-Scholes model, and is therefore relatively easy to build and implement with a computer spreadsheet.
Investment dictionary. Academic. 2012.
Look at other dictionaries:
binomial option pricing model — See binomial model. Practical Law Dictionary. Glossary of UK, US and international legal terms. www.practicallaw.com. 2010 … Law dictionary
Binomial option pricing model — An option pricing model in which the underlying asset can take on only two possible, discrete values in the next time period for each value that it can take on in the preceding time period. The New York Times Financial Glossary … Financial and business terms
binomial option pricing model — An option pricing model in which the underlying asset can assume one of only two possible, discrete values in the next time period for each value that it can take on in the preceding time period. Bloomberg Financial Dictionary … Financial and business terms
Binomial options pricing model — BOPM redirects here; for other uses see BOPM (disambiguation). In finance, the binomial options pricing model (BOPM) provides a generalizable numerical method for the valuation of options. The binomial model was first proposed by Cox, Ross and… … Wikipedia
Trinomial Option Pricing Model — An option pricing model incorporating three possible values that an underlying asset can have in one time period. The three possible values the underlying asset can have in a time period may be greater than, the same as, or less than the current… … Investment dictionary
Two-state option pricing model — An option pricing model in which the underlying asset can take on only two possible (discrete) values in the next time period for each value it can take on in the preceding time period. Also called the binomial option pricing model. The New York… … Financial and business terms
two-state option pricing model — A pricing equation allowing an underlying asset to assume only two possible (discrete) values in the next time period for each value it can take on in the preceding time period. Also called the binomial option pricing model. Bloomberg Financial… … Financial and business terms
Option Pricing Theory — Any model or theory based approach for calculating the fair value of an option. The most commonly used models today are the Black Scholes model and the binomial model. Both theories on options pricing have wide margins for error because their… … Investment dictionary
Monte Carlo methods for option pricing — In mathematical finance, a Monte Carlo option model uses Monte Carlo methods to calculate the value of an option with multiple sources of uncertainty or with complicated features.  The term Monte Carlo method was coined by Stanislaw Ulam in… … Wikipedia
binomial model — Also known as the binomial option pricing model or the lattice model. A financial option pricing model to estimate the expected value of share based payments using the variables of dividend yield, exercise period, exercise price, market price,… … Law dictionary