Down Transition Probability

Definition of 'Down Transition Probability'


The probability that an asset's value will decline in one period's time within the context of an option pricing model. The option pricing models using a down transition probability are both the binomial and trinomial option pricing models.

Investopedia explains 'Down Transition Probability'


In a binomial option pricing model, the probability that an option's underlying asset declines in value over a time step may be denoted by 1-Qu, where Qu represents the probability that the option's underlying asset will increase over the next time step in decimal form.

Under the trinomial model, the probability of a down transition is equal to the probability of an upward transition or an equal transition over the next time step not happening. If we denote Qu as the probability of the underlying asset increasing in value over the next time step, Qd as the probability the value of the underlying asset will decrease over the next time step, then the probability that the underlying asset's value stays the same is 1-Qu-Qd.



comments powered by Disqus
Hot Definitions
  1. Federal Reserve Note

    The most accurate term used to describe the paper currency (dollar bills) circulated in the United States. These Federal Reserve Notes are printed by the U.S. Treasury at the instruction of the Federal Reserve member banks, who also act as the clearinghouse for local banks that need to increase or reduce their supply of cash on hand.
  2. Benchmark Bond

    A bond that provides a standard against which the performance of other bonds can be measured. Government bonds are almost always used as benchmark bonds. Also referred to as "benchmark issue" or "bellwether issue".
  3. Market Capitalization

    The total dollar market value of all of a company's outstanding shares. Market capitalization is calculated by multiplying a company's shares outstanding by the current market price of one share. The investment community uses this figure to determine a company's size, as opposed to sales or total asset figures.
  4. Oil Reserves

    An estimate of the amount of crude oil located in a particular economic region. Oil reserves must have the potential of being extracted under current technological constraints. For example, if oil pools are located at unattainable depths, they would not be considered part of the nation's reserves.
  5. Joint Venture - JV

    A business arrangement in which two or more parties agree to pool their resources for the purpose of accomplishing a specific task. This task can be a new project or any other business activity. In a joint venture (JV), each of the participants is responsible for profits, losses and costs associated with it.
  6. Aggregate Risk

    The exposure of a bank, financial institution, or any type of major investor to foreign exchange contracts - both spot and forward - from a single counterparty or client. Aggregate risk in forex may also be defined as the total exposure of an entity to changes or fluctuations in currency rates.
Trading Center