Multi-period binomial asset pricing model 223
If we choose , and a continuous interest rate convention then as the number of periods goes to
∞
, the probability distribution for the value of the
underlying asset approaches a normal distribution.
The binomial model approximates the Black-Scholes model as
'
t
Æ
0, the price of a call computed using the binomial
model will approximate the Black-Scholes price.
t
e
u
Λ
=
σ
t
e
u
d
Λ
−
=
=
σ
1
Derivative securities: Options - Binomial asset pricing model