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Unformatted text preview: 161161Option Valuation•Our goal in this chapter is to discuss stock option prices and its determining factors.•We will discuss "implied volatility," which is the market’s forwardlooking uncertainty gauge.162162The BlackScholesMerton Option Pricing Model•The BlackScholes option pricing model says the value of a stock option is determined by five factors:S, the current price of the underlying stock.K, the strike price specified in the option contract.r, the riskfree interest rate over the life of the option contract.T, the time remaining until the option contract expires.σ, (sigma) which is the price volatility of the underlying stock.163163The BlackScholesMerton Option Pricing Formula•The price of a call option on a single share of common stock is: C= SN(d1) – Ke–rTN(d2)•The price of a put option on a single share of common stock is: P= Ke–rTN(–d2) – SN(–d1)d1and d2are calculated using these two formulas:( 29( 29TσddTσT2σrKSlnd1221=+×=164164Formula Details•In the BlackScholes formula, three common functions are used to price call and put option prices:–ert, or exp(rt), is the natural exponentof the value of –rt (in common terms, it is a discount factor)–ln(S/K) is the natural logof the "moneyness" term, S/K.–N(d1) and N(d2) denotes the standard normal probabilityfor the values of d1 and d2. •In addition, the formula makes use of the fact that: N(d1) = 1  N(d1) 165165Varying the Option Price Input Values•An important goal of this chapter is to show how an option price changes when only oneof the five inputs changes.166166Varying the Underlying Stock Price167167Varying the Time Remaining Until Option Expiration168168Varying the Volatility of the Stock Price169169Varying the Interest Rate16101610Calculating Delta•Deltameasures the dollarimpact of a change in the underlying stock price on the value of a stock option....
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This note was uploaded on 11/18/2011 for the course FIN 355 taught by Professor Phsiao during the Fall '08 term at S.F. State.
 Fall '08
 phsiao
 Valuation, Volatility

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