ABSTRACT
Begin with the simplest model of a market with a riskless asset, a unique risky asset with two states, and one time step. Define and evaluate risk neutral probabilities and hedge ratios. Generalize to more states and multiple time steps. Introduce recombining binomial models and derive the backwards pricing formula. Define Arrow-Debreu securities and Jamshidian's induction formula for their prices. Introduce the Cox-Ross-Rubinstein (CRR) model for options pricing and show that its limit is the Black-Scholes formula. Apply numerical methods to compute partial derivatives of option prices from the CRR model. Implement CRR pricing in software and estimate its computational complexity.
