A Markup Approach to Option Pricing PDF Download

Author: Dao Xiong Teng
Publisher:
ISBN:
Category : Options (Finance)
Languages : en
Pages : 49

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Book Description
At the heart of the classical Black-Scholes option pricing model lies the no arbitrage pricing principal with the assumption of a complete market which renders options as redundant assets. It is widely accepted that the market prices of options are generally inconsistent with the pricing model. In the existing literature, most papers have attributed the inconsistencies to the unrealistic assumptions of the classical Black-Scholes model. This paper proposes that even if option prices do follow the Black-Scholes model perfectly, we should not expect the market prices to coincide with prices calculated from the model. We propose two simple alternative approaches to the model on market prices of options, keeping most of the major assumptions under the classical model. We also examine their efficacies in estimating future volatilities and their efficacies in providing a perfect hedge to a long position in various options. Empirical results show some evidence that supports the alternative approaches. Results also show that for certain classifications of options, the alternative models provide a better delta-neutral portfolio.