Questions tagged [options]

A contract that gives the owner the right, but not the obligation, to buy or sell a security at a fixed price in the future.

Filter by
Sorted by
Tagged with
18 votes
3 answers
9k views

Carr-Madan Formula

Really new to financial Maths. I am currently having problems with the Carr-Madan Formula. $$f(S_T)=f(F_t) + f'(F_t) (S_T - F_t) + \int_0^{F_t} f''(K) (K-S_T)^+ \ d K + \int_{F_t}^{\infty} f''(K)...
user avatar
  • 181
30 votes
4 answers
26k views

How to derive the implied probability distribution from B-S volatilities?

The general problem I have is visualization of the implied distribution of returns of a currency pair. I usually use QQplots for historical returns, so for example versus the normal distribution: ...
user avatar
1 vote
1 answer
568 views

FX Options price vs implied vol

From the screenshot below, what is the difference between the option price by strike in the table versus the implied volatilities by delta in the chart at the bottom? https://www.investing.com/...
user avatar
  • 341
60 votes
8 answers
76k views

What are some useful approximations to the Black-Scholes formula?

Let the Black-Scholes formula be defined as the function $f(S, X, T, r, v)$. I'm curious about functions that are computationally simpler than the Black-Scholes that yields results that approximate $...
user avatar
  • 2,009
47 votes
6 answers
109k views

A simple formula for calculating implied volatility?

We all know if you back out of the Black Scholes option pricing model you can derive what the option is "implying" about the underlyings future expected volatility. Is there a simple, closed form, ...
user avatar
  • 1,998
13 votes
1 answer
3k views

Variance replication using options

I would like to understand the intuition behind the following question: Why a certain weighted sum of prices of put and calls is equivalent to the implied variance of an underlying? A variance swap ...
user avatar
4 votes
2 answers
2k views

Garman-Kohlhagen (Black-Scholes) Formula vs. Bloomberg OVML Calculator

I'm trying to price a European call option on USDJPY. We have that $S = 112.79, K = 112.24, \sigma = 6.887\%, r_d = 1.422\%, r_f = -0.519\%, T = 0.25$. My model, based on Black-Scholes, returns the ...
user avatar
46 votes
15 answers
29k views

Why Drifts are not in the Black Scholes Formula

This question has puzzled me for a while. We all know geometric brownian motions have drifts $\mu$: $dS / S = \mu dt + \sigma dW$ and different stocks have different drifts of $\mu$. Why would ...
user avatar
1 vote
2 answers
775 views

Effect of Implied volatility on option delta

I am currently hedging a short put option where strike is 6027 and expiry is 30th Mar 2023. As per my understanding when option is ITM increase in volatility will decrease the delta and decrease in ...
user avatar
  • 35
3 votes
4 answers
6k views

Value of Call Option as Volatility goes to Infinity

Why would the value of a call option go infinity as volatility goes to infinity? I understand how you could solve this question by taking $\sigma \rightarrow \infty$ in the solution to the black ...
user avatar
  • 2,131
6 votes
4 answers
1k views

Find a formula for the price of a derivative paying $\max(S_T(S_T-K),0)$

Develop a formula for the price of a derivative paying $$\max(S_T(S_T-K))$$ in the Black Scholes model. Apparently the trick to this question is to compute the expectation under the stock measure. So,...
user avatar
  • 2,131
11 votes
2 answers
4k views

How to derive the price of a square-or-nothing call option?

At maturity $T$, the holder of a "square-or-nothing" call option written on an underlying $S_t$ receives a payoff of the form $$ \phi(S_T) = \frac{S_T^2}{K} \pmb{1}_{\{S_T \geq K\}} = \begin{cases}\...
user avatar
4 votes
4 answers
11k views

Calculate strike from Black Scholes delta

I have a list of deltas and their corresponding volatilities in an FX market but I want to go from delta to strike price. In this Question similar problem is being discussed How can I calculate the ...
user avatar
  • 1,585
20 votes
3 answers
12k views

What causes the call and put volatility surface to differ?

I currently have a local volatility model that uses the standard Black Scholes assumptions. When calculating the volatility surface, what causes the difference between the call volatility surface, ...
user avatar
  • 203
12 votes
3 answers
9k views

How to exploit calendar arbitrage?

Say we are looking at European Call options in a toy environment with zero deterministic interest rates, a stock paying no dividends, no repo rates etc... Let $C(T,K)$ be the price of a call with ...
user avatar
7 votes
1 answer
1k views

Modeling Call Price w.r.t. Strike w Models that Capture Vol Smile

I am trying to model $C(K)$, the price of the call $C$ as a function of strike $K$. Because this is tied to Prob ITM - and in fact the probability density function of that particular expiration (https:...
user avatar
  • 665
5 votes
1 answer
6k views

Barrier option (autocallable) Vega profile

I have a question about the Vega profile(graph) on an autocallable option. Generally for a regular option, the vega graph looks like a normal (kinda normal) distribution with the vega highest at-the-...
user avatar
  • 53
12 votes
7 answers
4k views

What is the fair price of this option?

Without having to use Black-Scholes, how do I price this option using a basic no-arbitrage argument? Question Assume zero interest rate and a stock with current price at \$$1$ that pays no dividend. ...
user avatar
6 votes
2 answers
4k views

Dynamic Hedge of Quanto Options

Can anybody explain to me step-by-step how can I dynamically hedge and/or replicate a quanto option with the foreign underlying asset, the foreign cash account and the domestic cash account as ...
user avatar
  • 63
3 votes
4 answers
5k views

Prove that the butterfly condition is always greater than zero

I need to prove that the butterfly condition is always positive under no arbitrage theorem. We are constructing a long butterfly using European call options ...
user avatar
  • 127
17 votes
1 answer
1k views

How much can be said about the Greeks without picking a model?

Let $C(S, K, \sigma, r, T)$ be the price of a call option. How much can be said about the Greeks without picking a model? Or at least without full Black-Scholes? Below, I write down everything I know ...
user avatar
20 votes
8 answers
15k views

Why does implied volatility show an inverse relation with strike price when examining option chains?

When looking at option chains, I often notice that the (broker calculated) implied volatility has an inverse relation to the strike price. This seems true both for calls and puts. As a current ...
user avatar
9 votes
4 answers
1k views

European Call Option Delta Upper Bound

For a pure equity process (with interest rate, dividend, etc., being zero) not necessarily the geometric Brownian motion, is the delta of a European call option always no higher than $1$? I am NOT ...
user avatar
  • 2,463
6 votes
5 answers
7k views

Writing an Options Strategy Backtester

I've been doing some digging, and this question has been asked many times in various forms over the years - Backtesting Options Strategies in R Are there any good tools for backtesting options ...
user avatar
12 votes
1 answer
9k views

Implied dividend estimation

I am looking at two different ways of estimating the expected / implied dividends from market data. 1. Dividend futures I know that this asset class is not very liquid and might not be ...
user avatar
  • 1,391
3 votes
1 answer
321 views

Intuition behind prices modeled by Geometric Brownian Motion

Suppose that we model a price $P_t$ to evolve per $$\frac{dP_t}{P_t}=\mu dt+\sigma dW_t$$ for $\mu\in\mathbb{R}$ and $\sigma>0$. The unique strong solution to this diffusion is $$P_t=P_0e^{(\mu-\...
user avatar
0 votes
1 answer
806 views

Hedging in the Heston Model

I have simulated an underlying stock price, $S_t$ and a stochastic variance process, $v_t$ with the following stochastic differential equations from the Heston Universe: $$ dS_t = \mu S_tdt + \sqrt{...
user avatar
  • 127
5 votes
1 answer
4k views

Option prices in Bates SVJ model?

In this [post] discussed the European put and call price formulas under the Heston Stochastic Volatility model. There exists an important extension of Heston model to include diffusion jumps, known ...
user avatar
  • 5,629
4 votes
3 answers
604 views

Probability of an Option maturing In-the-money vs. Volatility

How will the probability of an option ending up in the money change if the volatility of the underlying stock increases? Intuitively, I think the answer to this is that if volatility goes up the ...
user avatar
  • 2,131
1 vote
3 answers
803 views

Do basket options have a closed form valuation formula?

Suppose I'm simulating a European call option on a basket consisting of N stocks with slightly varying volatilities but all other parameters remain the same. From the perspective of an estimate, it ...
user avatar
0 votes
0 answers
240 views

Exotic option arbitrage

Suppose an exotic European option has a sub hedging (price being lower than the target) portfolio of vanilla European options all with the same expiry as the exotic option. The sub hedging portfolio ...
user avatar
  • 2,463
11 votes
1 answer
4k views

Arbitrage opportunity interview question

I have seen this interview question mentioned in a couple of places: There are three call options on the market, with the same expiry and with strikes 10, 20, and 30. Suppose the call option with ...
user avatar
  • 113
14 votes
3 answers
8k views

What really is Gamma scalping?

How does Gamma scalping really work? It seems there is no true profit scalped. If we look at the simplest scenario, Black-Scholes option price $V(t,S)$ at time $t$ and the underlying stock price at $S$...
user avatar
  • 2,463
21 votes
3 answers
6k views

Is there a popular curve fitting formula of options skew vs strike price or vs Delta?

I was trying to build a options trading/optimization system. But it often gets more inaccurate as it scans through the far from ATM options because, you know, options skews. That is because I did ...
user avatar
  • 311
15 votes
9 answers
9k views

Why the expected return rate of a stock has nothing to do with its option price?

OK, I admit that this is a frequently asked question. But I couldn't find a satisfying answer after I read the explanations of books, went through the derivations of B-S formula, and searched answers ...
user avatar
21 votes
3 answers
8k views

Is there an all Java options-pricing library (preferably open source) besides jquantlib?

I am looking for an all-java implementation of black scholes, preferably open source. I found jquantlib and quantlib (C++). Any other recommendations? The jquantlib site seems to be down. I'd prefer ...
user avatar
  • 249
13 votes
2 answers
3k views

What are the main flaws behind Ross Recovery Theorem?

Stephen Ross’ new paper claims that it is possible to separate risk aversions and historical probabilities if the Stochastic Discount Factor is transition independent using Perron-Frobenius Theorem. ...
user avatar
  • 1,856
8 votes
4 answers
9k views

Basket option pricing: step by step tutorial for beginners

I would like to learn how to price options written on basket of several underlyings. I've never tried to do it and I would appreciate if you can provide some documents, papers, web sites and so on in ...
user avatar
  • 2,046
9 votes
2 answers
913 views

How to price an option allowing to change a call into a put?

A recruiter asked me this question: Suppose you have the following contract: a call option with maturity $T$ = 2 years the possibility to change this call into a put at $t$ = 1 year What is the ...
user avatar
  • 617
15 votes
3 answers
27k views

Does implied vol vary for calls vs puts?

Volatility skew tells us that options with the same maturity at different strikes can have different implied vol. However, can a corresponding call and put for the same strike and maturity have ...
user avatar
  • 1,998
24 votes
6 answers
3k views

Setting the r in put-call parity?

Put-call parity is given by $C + Ke^{-r(T-t)} = P + S$. The variables $C$, $P$ and $S$ are directly observable in the market place. $T-t$ follows by the contract specification. The variable $r$ is ...
user avatar
  • 2,009
16 votes
7 answers
6k views

Why do institutional Traders prefer Short Selling instead of Buying Puts?

Why is it more common for Institutional Traders to short sell stocks when they have a bearish stance instead of Buying Puts? The limited loss potential of Buying Puts seems like a better choice.
user avatar
14 votes
2 answers
6k views

How to extrapolate implied volatility for out of the money options?

Estimation of model-free implied volatility is highly dependent upon the extrapolation procedure for non-traded options at extreme out-of-the-money points. Jiang and Tian (2007) propose that the ...
user avatar
13 votes
5 answers
6k views

How to obtain true probabilities from Black-Scholes?

How to obtain true probabilities from Black-Scholes option pricing equation? Suppose, that we know risk adjusted discount rate for the underlying asset (the drift term in the physical measure) and ...
user avatar
  • 133
14 votes
3 answers
7k views

How does volatility affect the price of binary options?

In theory, how should volatility affect the price of a binary option? A typical out the money option has more extrinsic value and therefore volatility plays a much more noticeable factor. Now let's ...
user avatar
  • 1,802
4 votes
2 answers
396 views

Option Valuation

Can Black-Scholes option values be derived via the Capital Asset Pricing Model, without resort to the use of a risk-free portfolio being created from the option and a Delta determined quantity of the ...
user avatar
2 votes
1 answer
247 views

Pricing an fx option in the same currency

Let imagine we have an option from EUR to USD priced in EUR, therefore the payoff for a call is: $$\frac{(S - K)^{+}}{S} = K (1/K - 1/S)^{+}$$ This is basically the payoff of a price of a put on 1/S ...
user avatar
2 votes
1 answer
1k views

Carr-Madan european contingent claim payoff decomposition formula - application

Looking for some clarification to the values of the parameters used in the Carr-Madan payoff decomposition formula. $$f(S_T)=f(\kappa) + f'(\kappa) (S_T - \kappa) + \int_0^{\kappa} f''(K) (K-S_T)^+ ...
user avatar
  • 701
10 votes
2 answers
3k views

How to calculate the most realistic historical option prices with additional publicly available parameters

This is a follow up question of this one. My aim is to create the most realistic historical option prices possible with publicly available data. I want to do this for backtesting purposes. The ...
user avatar
  • 26.7k
7 votes
1 answer
2k views

Implied interest rate using put-call parity

In the process of asking this question, I acutally found the solution. I still let this post open if it can be interesting to someone else and have added a related question at the end. I want to ...
user avatar
  • 538

1
2 3 4 5