Question: 6. The Trinomial tree model is a generalized version of the Binomial tree model where there are three possible future states: Up, Down, and

6. The Trinomial tree model is a generalized version of the Binomial

6. The Trinomial tree model is a generalized version of the Binomial tree model where there are three possible future states: Up, Down, and Stay. The new state Stay corresponds to the case where stock price does not move. The new values of u, d, Pu, Pd, and p, are given by the following expressions where p represents the risk-neutral probability of the stock price staying. = e2At d = e-o2At = 1 erAt/2-e At/2 2 Pu = e /2 2 Pd = Ps = 0 eAt/2erAt/2 1-Pu-Pd e The option price at each node is computed in a similar way to the Binomial tree model as

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