Binomial Option Pricing Model

Free CFA Level II lesson in Derivatives. 20 min read, ~3,042 words.

Risk-neutral probability p = (1 + r - d) / (u - d). No-arbitrage forces this formula; it is NOT a forecast of where the stock is heading. Option value = [p x payoff_up + (1 - p) x payoff_down] / (1 + r). The discount factor is non-negotiable. American...