Explanation:
As the number of time steps (periods) in the binomial option pricing model increases (and the length of each time step tends to zero), the calculated option value converges to the price given by the continuous-time Black-Scholes-Merton model.
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Q.95 Alex is a financial analyst at a boutique investment firm, Stellar Capital. As part of his training program, he is studying various option pricing models. Alex has been examining the binomial option pricing model and its properties. He learns that the binomial model's calculated value tends to change as time periods are added. Alex decides to delve further into the topic and understand the convergence behavior of the binomial model as time periods increase. Based on his findings, which of the following best describes how the value calculated using a binomial model converges as time periods are added?
A
The model's calculated value becomes erratic and deviates substantially from the actual option price.
B
The model's calculated value becomes less precise, leading to increased estimation errors.
C
The model's calculated value remains unchanged regardless of the number of time periods added.
D
The model's calculated value gradually approaches the true continuous-time option price as more time periods are added.
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