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b) Binomial pricing model doesnt provide for the possibility of price of the underlying remaining the same between two consecutive time points (it assumes that either the price could go up or could come down; it completely ignores the possibility of the price not changing at all) a) Binomial pricing model breaks up the time to the expiry of option in to a limited number of time intervals and hence, the price calculated through binomial trees is more of a broad approximation of the actual price. (Compare this with Black Scholes (BS) Model which gives a more accurate approximation because the BS model involves breaking the time to expiry into infinitesimaly small time intervals).

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b) Binomial pricing model doesnt provide for the possibility of price of the underlying remaining the same between two consecutive time points (it assumes that either the price could go up or could come down; it completely ignores the possibility of the price not changing at all) a) Binomial pricing model breaks up the time to the expiry of option in to a limited number of time intervals and hence, the price calculated through binomial trees is more of a broad approximation of the actual price. (Compare this with Black Scholes (BS) Model which gives a more accurate approximation because the BS model involves breaking the time to expiry into infinitesimaly small time intervals).

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Explain how product form pricing may be pricing option at Quills?

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When the binomial tree has a large numbers of steps (i.e. the time interval between nodes is very small).

The spreadsheet in the related link prices options using Black-Scholes analytical equations and a binomial tree. As the number of steps in the binomial tree increase, the results of both approaches becomes equal to many decimal places.

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An arbitrage pricing theory is a theory of asset pricing serving as a framework for the arbitrage pricing model.

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Binomial distribution is the basis for the binomial test of statistical significance. It is frequently used to model the number of successes in a sequence of yes or no experiments.

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