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Rev Fin 1996; 9:1211-1250
© 1996 the Society for Financial Studies

Article

American option valuation: new bounds, approximations, and a comparison of existing methods

M Broadiez and J Detemple1
1 McGill University and CIRANO
z Corresponding author at: 415 Uris Hall, Columbia University, New York, NY 10027, USA

Abstract

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 (termed LBA) and one based on both bounds (termed LUBA). The LUBA approximation has an average accuracy comparable to a l,000-step binomial tree. We introduce a modification of the binomial method (termed BBSR) that 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.


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