Pricing European and American Derivatives Under a Jump-Diffusion Process: A Bivariate Tree Approach
50 Pages Posted: 23 Jun 2003
Date Written: June 13, 2003
We develop a straightforward procedure to price derivatives by a bivariate tree when the underlying process is a jump-diffusion. Probabilities and jump sizes are derived by matching higher order moments or cumulants. Comparisons with other published results are given along with convergence proofs and estimates of the order of convergence. A long term investment project is used to demonstrate the impact of jumps on imbedded options.
Keywords: jump-diffusion, bivariate tree, options
JEL Classification: G13
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