What is the Binomial Option Pricing Model?
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- čas přidán 20. 07. 2024
- In this comprehensive video, we delve into the intricacies of the Binomial Option Pricing Model, an essential tool for traders and financial analysts to value options. Starting with an introduction to the model, we guide you through constructing a riskless portfolio, calculating the number of long shares, and estimating portfolio value. Learn how to calculate the implied value of a call option, determine probabilities of market moves, and finally discuss the Binomial Option Pricing Model applications to real-world scenarios. Whether you're a beginner or an expert in finance, this video serves as a complete walkthrough for understanding and utilizing the Binomial Option Pricing Model effectively.
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Chapters:
0:00 - Introduction to the Binomial Option Pricing Model
2:09 - Constructing a Riskless Portfolio
4:10 - Calculating the # of Long Shares in Portfolio
6:35 - Calculate Portfolio Value in 1 Year
8:13 - Calculate the Implied Value of a Call Option
9:17 - Calculate Probabilities of Up & Down Moves
11:40 - Value Call Option Using Binomial Option Pricing Model
12:24 - Value Put Option Using Binomial Option Pricing Model
14:02 - The Binomial Option Pricing Model in the Real World
*Disclosure: This is not financial advice and should not be taken as such. The information contained in this video is an opinion. Some of the information could be wrong. This channel is owned and operated by Portfolio Constructs LLC. Some of the links above are affiliate links, meaning, at no additional cost to you, I will earn a commission if you click through and make a purchase.
🎓 Tutor With Me: 1-On-1 Video Call Sessions Available
► Join me for personalized finance tutoring tailored to your goals: ryanoconnellfinance.com/finance-tutoring/
📚 CFA Exam Prep Discount - AnalystPrep:
► Get 20% off CFA Level 1, 2, and 3 complete courses with promo code "RYAN20". Explore here: analystprep.com/shop/all-3-levels-of-the-cfa-exam-complete-course-by-analystprep/?ref=mgmymmr
You have been my primary educator for my entire finance curriculum, keep up the amazing work!!!
Thank you so much for this comment, it really means a lot to me!
You are an excellent educator
Thank you, I really appreciate that!
Thank you so much for making it so easy to understand🙏💐
Thanks Ryan, this has helped me greatly with estimating the future value of my portfolio hedges.
Glad it was helpful! Thanks for the feedback
Nicely explained certainly better than in the lecture I really like your channel sir
Hey Max, I really appreciate the feedback and your support
thanks so much! Do you maybe have videos on both American and European options with Dividend and non dividend paying stocks?
Thx bryan. Have my binomial option pricing in my ca final (india) strategic financial management paper. This was definitely very helpful for me to understand.
I'm really glad you found it useful! Best of luck on your test, I've heard the CA can be brutal
@@RyanOConnellCFA hi Ryan, binomial and risk neutral theorem questions came in the exam. It was asking how to price the call thru both and what is the difference between them. I just remembered your explanation about how the binomial theorem works and could answer the same. Thanks for the help.
@@b0ngitnator387 My pleasure, and I'm really glad to hear that my explanation was able to help you on test day! Let me know if you end up passing 🥳
Thanks for the explanation... You showed the calculation taking 1 year period, Do we use the same formulas considering 1 day period? Its the difference only in the value of the down and up factors?
My pleasure! Yes, the same formulas used in the 1-step binomial option model for a one-year period can be applied to a one-day period, with adjustments to the up and down factors to reflect the shorter time frame. The key difference lies in recalculating these factors and the risk-free rate to match the daily timeframe, which often results in smaller magnitudes for the up and down movements compared to annual calculations.
Clear understanding i am in UCC level 400 , good
Great to hear!
Ryan, thank you for this wonderful video! I would like to clarify the following: How would one estimate 'u' and 'd' in real life? I understand it's outside of the scope of the video, but maybe you could point me in the right direction (CFA learning statement or something more intuitive). What software one would use to estimate the value of options using binomial models - python based software maybe?
Absolutely, I'm happy to point you in the right direction! To estimate the 'u' and 'd', you can use historical volatility or implied volatility derived from market data. Using historical data of the underlying asset, you can calculate the volatility of the asset's returns. This volatility can then be used to derive 'u' and 'd', often using formulas such as:
T = expiration time
n = height of the binomial tree
time step size = T / n;
u = exp(sigma * volatility(time step size));
d = 1/u
As for software to estimate the value of options using binomial models, you can definitively use Python. I think deriving the up factor and down factor are outside the scope of the CFA curriculum
@@RyanOConnellCFA guess i can put binomial trees on my resume as a separate skill) love how every topic has true depth to it, convoluted as hell...
@@victoricus1 Haha that is what I love about this stuff though. You can always dig a little bit deeper into a topic and learn more. It's really hard to cover everything in a short video
Thanks for the video. Is there a reference text
Its my pleasure. I personally referenced the CFA Level 1 Fixed Income material when creating this video
Also, why wouldn't anyone be able to build a riskless portfolio, by using short PUT options? I dont quite get the intuition behind it...although i kinda get that one somehow manages market exposure by selling 'buy options'. Does it have anything to do with the concepts of arbitrage and replication (which I too do not really understand)?
The whole idea here is based on the concept of arbitrage. Most concepts in derivative pricing can usually come down to the concept of arbitrage. If there is an imbalance between the price of this option, the underlying stock, and the risk free rate, I can make risk free profit through a combination of trades. The idea of the riskless portfolio is a way to price the derivative in an arbitrage free way
@@RyanOConnellCFA thank you! later that day i watched a couple more videos on analyst prep, kinda makes it more clear, but i think understanding comes with practice)
@@victoricus1 Analyst prep has some good in depth videos too! Probably the best way to understand it would be to build out a multiple step binomial pricing model in Excel or Python