Hi, Someone told me that I could use two vanillas which have very small strike difference (Call Spread) to check my Digital pricing. I am not sure if this approach is valid or not. The prices I got for Call Spread and Digital are quite different. Could anyone give me some help about this approach? Is it valid?Thanks!

how many call spreads are u using?if the digital pays 1, and the difference in strikes in the call spread is x, then u have to use 1/x call spreads for your approximation to make sense.example:spot price =100R=5%vol=30%T=1div=0digital strike =100digital pay-off = 1digital price is 0.48194if i use a call spread with strikes 100 and 100,01 (long the first one and short the second one),then the pay-off if price ends up above 100,01 is 0,01, and not 1 as in the digital. Therefore i need to have 100 call spreads to approximate my digital value.price of call-spread (same parameters as above) = 0,0048187price of 100 call spreads = 0,48187hope this helps,Dook

Thanks Dook,And how close should these two prices(Call Spread / Digital) be? under 1% difference?