November 1998
Intermediate to advanced
220 pages
6h 36m
English
Content preview from Fixed Income and Interest Rate Derivative Analysis
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92 FIXED INCOME AND INTEREST RATE DERIVATIVE ANALYSIS
volatility of 1% and a drift m of zero our tree will start like this
6.0
6.5
5.5 5.5
5.0 5.0
4.5 4.5
4.0
3.5
Note that the tree
recombines. That is if we go down then up we end at the
same spot as if we went up then down. A tree like this is easily constructed
on a spreadsheet by simply copying and pasting one cell containing the up
formula and another containing the down formula. Now let's assume that
there is a risk-neutral probability of going up or down of exactly 0.5 at each
branch of the tree. Surprisingly ...
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