The optimal-drift model: an accelerated binomial scheme

Ralf Korn () and Stefanie Müller ()

Finance and Stochastics, 2013, vol. 17, issue 1, 135-160

Abstract: We introduce the optimal-drift model for the approximation of a lognormal stock price process by an accelerated binomial scheme. This model converges with order o(1/N), which is superior compared to today’s benchmark methods. Our approach is based on the observation that risk-neutral binomial schemes converge to the lognormal limit independently of the choice of the drift parameter. We verify the improved order of convergence by an asymptotic expansion of the binomial distribution function. Further, we show that the above result on drift invariance implies weak convergence of the binomial schemes suggested by Tian (in J. Futures Mark. 19, 817–843, 1999 ) and Chang and Palmer (in Finance Stoch. 11, 91–105, 2007 ). Copyright Springer-Verlag 2013

Keywords: Binomial model; Black–Scholes model; Option pricing; Accelerated convergence; Weak convergence; 91G20; 91G60; G13 (search for similar items in EconPapers)
Date: 2013
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

Downloads: (external link)
http://hdl.handle.net/10.1007/s00780-012-0179-y (text/html)
Access to full text is restricted to subscribers.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:spr:finsto:v:17:y:2013:i:1:p:135-160

Ordering information: This journal article can be ordered from
http://www.springer. ... ance/journal/780/PS2

DOI: 10.1007/s00780-012-0179-y

Access Statistics for this article

Finance and Stochastics is currently edited by M. Schweizer

More articles in Finance and Stochastics from Springer
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().