Interest Rate Tree ruuu 1 ruu ruud ru r P(0,3) P(1,3) rd P(2,3) rdd P(1,3) rddd P(2,3) 1 Figure 8.1: Interest rate and bond price values in a tree. P(2,3) rud ruddd 1 1
Bond Option 0.0605 1.0000
0.0550 0.9479 0.0000
r(0) u d K p Delta t
0.0500 1.1000 0.9000 0.9500 0.5000 1.0000
r(0) P(0,2) C(0)
0.0500 0.9071 0.0033
0.0495 1.0000
0.0450 0.9569 0.0069
0.0405 1.0000 Figure 8.2: Pricing a call option on a bond.