American Option Valuation: New Bounds, Approximations, and a Comparison of Existing Methods
REVIEW OF FINANCIAL STUDIES, Vol. 9 No. 4
Posted: 5 Feb 1998
We develop lower and upper bounds on the prices of American call and put options written on a dividend paying asset. We provide two option price approximations, one based on the lower bound (term LBA) and one based on both bounds (termed LUBA). The LUBA approximation has an average accuracy comparable to a 1000-step binomial tree with a computation speed comparable to a 50-step binomial tree. We introduce a modification of the binomial method (termed BBSR) which is very simple to implement and performs remarkably well. We also conduct a careful large-scale evaluation of many recent methods for computing American option prices.
JEL Classification: G13
Suggested Citation: Suggested Citation