[R-SIG-Finance] Option pricing, basic question

Hong Yu hyu0401 at hotmail.com
Thu Jun 9 08:38:51 CEST 2016

I remember John Hull’s book on option pricing should be helpful in finding some examples for your programming and modelling.  

Some assumptions of the Black-Scholes model are known to be impractical.  “Implied volatility” is one way to handle that.  Again you can find books for theoretical discussions to improve Black-Scholes.

My suggestions do not stick to your particular questions.  But hope the above may help.

Hong Yu

From: thp 
Sent: Thursday, June 09, 2016 2:03 PM
To: r-sig-finance at r-project.org 
Subject: [R-SIG-Finance] Option pricing, basic question


I have a question regarding option pricing. In advance:
thank you for the patience.

I am trying to replay the calculation of plain
vanilla option prices using the Black-Scholes model
(the one leading to the analytic solution seen for
example on the wikipedia page [1]).

Using numerical values as simply obtained from
an arbitrary broker, I am surprised to see that
the formula values and quoted prices mismatch
a lot. (seems cannot all be explained by spread
or dividend details)

My question: What values for r (drift) and \sigma^2
are usually to be used, in which units?

If numerical values are chosen to be given "per year",
then I would expect r to be chosen as \ln(1+i),
where i is the yearly interest rate of the risk-free
portfolio and \ln is the natural logarithm. Would the
risk-free rate currently be chosen as zero?

The \sigma^2 one would accordingly have to choose
as the variance of the underlying security over
a one year period. Should this come out equal in
numerical value to the implied volatility, which is
0.2 to 0.4 for the majority of options?


[1] https://de.wikipedia.org/wiki/Black-Scholes-Modell

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