Weaknesses Of The Black Scholes Model

In order to set the option pricing model, other basic assumptions have been used such as the market is efficient and frictionless which means that people cannot predict with consistency the direction of stocks in the financial market; no tax or transaction costs occur and there are no legal restrictions on trading in the options and in the underlying asset, or on short-selling the asset (Data and Mathews, 2004; Jiang, 2005). The BSM model also assumes that the market is arbitrage free which indicates there

Black, F. & Scholes, M., 1973. The Pricing of Options and Corporate Liabilities. The Journal of

Bodie, Z., Kane, A., & Marcus, A. J. (2008). Essentials of Investments. (7th ed.) McGraw-Hill. New York.

The achieve this objective of this paper and it is necessary to Construct the Temperature Stochastic Model for Option Pricing based on data price the call and put options and how the temperature fluctuating is affects investees in Colombian Electricity Markets. Thus, first part of

The approximation is likely to be good in non-concentrated markets, like the U.S. stock markets.

Therefore, derivatives are traded separately from spot market. Derivatives are not always simple and straightforward. There are some derivatives that their characteristics and features are difficult to understand. These derivatives are called “exotic derivatives”, which include barrier option, which is a type of option that its exercise depends on whether the price reaches a barrier level in the maturity date and it has a lower premium than that of the ordinary option (Hull 2003: 439), caput, which is an option to buy a put, cacall, which is an option to buy a call, and contingent premium option, which is a type of option that its premium payment is postponed till the maturity date and its premium is higher than that of ordinary options, if the option is in-the-money at the expiration date so the premium will be paid, but in the case of out- and at-the-money, the premium will not be paid. Any small change in the price of the underlying asset may cause a huge change in the derivative’s price (Federal Reserve Bank of Boston 2002:

Based on the study by E.V.P.A.S.Pallavi, Dr. K. S. S. Rama Raju and Dr. T. Kama Raju (2013), it was stated that options are used to hedge not only the portfolio risk but also to maximize the return on investments all over the world. The pro of using option contracts in hedging is that it is cost efficiency as option has a great leverage power. Investors can obtain an option position that

This paper seeks to evaluate the strengths and weaknesses of the Black-Scholes option pricing model.

The energy market as a whole can be seen as volatile and as such, options demand high premium. Although in hedging terms, this may seem like the perfect hedge the overall costs of the product may create reluctance.

Pricing barrier options using lattice techniques can be quite delicate. While the use of a large number of time steps may produce accurate solutions for standard options, the use of the same number of time steps in valuing barrier options will often produce erroneous option values. The source of the problem arises from the location of barrier with respect to adjacent layers of nodes in the lattice. If the barrier falls between layers of the lattice, the errors may be quite significant.

Stulz (1996) find that many firms use successfully derivatives as a tool for hedge for short-term contracts or in cases when they have large taxes or poorly diversified portfolios. By using derivatives to hedge the risk companies increase their leverage and in this way reduce the tax liabilities. In other words, the use of derivatives increases the level of leverage. (Stulz 1996) Other theories suggest that some holders of call option can benefit from the use of derivatives if they produce higher volatility. (Black and Scholes 1973). But according to the research of Hentschel and Kothari (2001) there is no enough evidence for such thesis.

a predetermined date and price on which the contract will be executed. The future date and

Different ways of trading, available in the marketplace AlldayOption, allow traders to use a flexible approach to trade binary options and to act according to personal preferences and trading experience, the behavior of the markets, the volume of investment capital and the timing of investments.

Turning to the introduction of option contracts, the non-linear payoff structure of options adds an interesting dimension to the problem, that has inspired much insightful theoretical research. Still, no real consensus has emerged as to whether we should expect options to stabilize or destabilize the underlying market. As in the case for the introduction of futures, the range of theoretical possibilities is sufficiently broad as to accommodate nearly any conclusion, depending on what assumptions are made. Nevertheless, it can be quite instructive to examine this literature carefully, for in doing so we may gain valuable insights to help us gain a richer appreciation of the complicated relationships between derivative and primary assets. The empirical literature on this issue is vast. Studies have been performed on data from commodity, fixed-income, individual stock, stock-index, and currency futures, as well as individual

The call money market crosses international lines, with funding opportunities located in a number of countries around the world. Because of the inclusion of international banking institutions, the role of the brokerage firm becomes vital to the individual investor. Brokers will be aware of applicable banking laws, and how those laws could impact the transaction. This knowledge regarding participants in the call money market allows the firm to pick and choose among possible avenues for funding with a level of efficiency that would be difficult for the individual.