DEFINITION of 'LatticeBased Model'
An option pricing model that involves the construction of a binomial tree to show the different paths that the underlying asset may take over the option's life. A lattice model can take into account expected changes in various parameters such as volatility over the life of the options, providing more accurate estimates of option prices than the BlackScholes model. The lattice model is particularly suited to the pricing of employee stock options, which have a number of unique attributes.
BREAKING DOWN 'LatticeBased Model'
The lattice model's flexibility in incorporating expected volatility changes is especially useful in certain circumstances, such as pricing employee options at earlystage companies. Such companies may expect lower volatility in their stock prices in the future as their businesses mature. This assumption can be factored into a lattice model, enabling more accurate option pricing than the BlackScholes model, which inputs the same level of volatility over the life of the option.

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