Table of Contents
Is the Black-Scholes model reliable?
Regardless of which curved line considered, the Black-Scholes method is not an accurate way of modeling the real data. While the lines follow the overall trend of an increase in option value over the 240 trading days, neither one predicts the changes in volatility at certain points in time.
What volatility should be used in Black-Scholes model?
Implied volatility
Implied volatility is derived from the Black-Scholes formula, and using it can provide significant benefits to investors. Implied volatility is an estimate of the future variability for the asset underlying the options contract. The Black-Scholes model is used to price options.
What are the limitations of the Black-Scholes model?
Some of the standard limitations of the Black-Scholes model are: Assumes constant values for risk free rate of return and volatility over the option duration—none of those may remain constant in the real world Assumes continuous and costless trading—ignoring liquidity risk and brokerage charges
Is the Black-Scholes model bad at valuing long-dated options?
Based on Warren Buffett, while the Black-Scholes model has been the widely used model to value equity put options, he thinks that there are limitations to it – when the model is applied to an extended time period, they can produce absurd results. So Waren Buffett is saying that the Black-Scholes model is bad at valuing long-dated options.
What is the Black-Scholes model of option trading?
A major part of the paper deals with the original Black-Scholes model, which resulted in the expansion of option contract trading, mostly due to its simplicity and comprehensiveness. In the context of the Black-Scholes model discrepancy with the real financial market development, two known modified models are introduced.
Should traders follow Black-Scholes pricing?
Traders following Black-Scholes pricing should be aware of such implications and use alternative models such as Binomial pricing that can account for changes in payoff due to dividend payment. Otherwise, the Black-Scholes model should only be used for trading European non-dividend-paying stocks.