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2002•Zhōngguó cáiwù xuékānRequires access

A New Modified Binomial Approach to Pricing American Put Option

Hung-Chou Tsai, Hsin-Der Chen

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Abstract

This paper develops a new computational method of the binomial model for pricing American put option. The binomial tree can be partitioned by null region, continuation region, and stopping region. The new method is to compute the value of American put option only at the nodes in the continuation region. In this approach, the number of nodes for computing the value of put option is significantly reduced. The computational experiment is performed in MATLAB. The performance of our new modified binomial approach is measured by the average computing time (in flops), and it is found that our new modified binomial approach is about four times faster than the modified binomial approach of Kim and Byun (1994), and sixteen times faster than the conventional binomial method. Key words:American put option, optimal stopping time, binomial tree

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What this paper is about

This paper develops a new computational method of the binomial model for pricing American put option. The binomial tree can be partitioned by null region, continuation region, and stopping region. The new method is to compute the value of American put option only at the nodes in the continuation region. In this approach, the number of nodes for computing the value of put option is significantly reduced. The computational experiment is performed in MATLAB. The performance of our new modified binomial approach is measured by the average computing time (in flops), and it is found that our new modified binomial approach is about four times faster than the modified binomial approach of Kim and Byun (1994), and sixteen times faster than the conventional binomial method. Key words:American put option, optimal stopping time, binomial tree

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Available abstract

This paper develops a new computational method of the binomial model for pricing American put option. The binomial tree can be partitioned by null region, continuation region, and stopping region. The new method is to compute the value of American put option only at the nodes in the continuation region. In this approach, the number of nodes for computing the value of put option is significantly reduced. The computational experiment is performed in MATLAB. The performance of our new modified binomial approach is measured by the average computing time (in flops), and it is found that our new modified binomial approach is about four times faster than the modified binomial approach of Kim and Byun (1994), and sixteen times faster than the conventional binomial method. Key words:American put option, optimal stopping time, binomial tree

Key concepts: Binomial options pricing model, Trinomial tree, Binomial (polynomial), Continuation, Binomial distribution, Mathematics, Valuation of options, Finite difference methods for option pricing

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