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The Peculiar Logic of the Black-Scholes Model

Weatherall, James Owen (2017) The Peculiar Logic of the Black-Scholes Model. [Preprint]

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Abstract

The Black-Scholes(-Merton) model of options pricing establishes a theoretical relationship between the "fair" price of an option and other parameters characterizing the option and prevailing market conditions. Here I discuss a common application of the model with the following striking feature: the (expected) output of analysis apparently contradicts one of the core assumptions of the model on which the analysis is based. I will present several attitudes one might take towards this situation, and argue that it reveals ways in which a "broken" model can nonetheless provide useful (and tradeable) information.


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Item Type: Preprint
Creators:
CreatorsEmailORCID
Weatherall, James Owenweatherj@uci.edu0000-0003-1461-7821
Additional Information: Presented in the 2016 PSA Symposoium "How are Economic Models Used (and How Should They Be)?"
Keywords: Black-Scholes model Black-Scholes formula Volatility smile Economic models Scientific models
Subjects: Specific Sciences > Economics
General Issues > Models and Idealization
Depositing User: James Owen Weatherall
Date Deposited: 30 May 2017 20:17
Last Modified: 30 May 2017 20:17
Item ID: 13078
Subjects: Specific Sciences > Economics
General Issues > Models and Idealization
Date: May 2017
URI: http://philsci-archive.pitt.edu/id/eprint/13078

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