What is the option pricing theory?

An option pricing theory is any model or theory-based approach for calculating the fair value of an option. Today, the most commonly used models are the Black-Scholes model and the binomial model.
A.

What is the Black Scholes option pricing model?

The formula, developed by three economists – Fischer Black, Myron Scholes and Robert Merton – is perhaps the world's most well-known options pricing model. The Black-Scholes model makes certain assumptions: The option is European and can only be exercised at expiration.
  • How do dividends affect stock options?

    Cash dividends affect option prices through their effect on the underlying stock price. Because the stock price is expected to drop by the amount of the dividend on the ex-dividend date, high cash dividends imply lower call premiums and higher put premiums.
  • What is the price of the option?

    Option pricing refers to the amount per share at which an option is traded. Options are derivative contracts that give the holder (the "buyer") the right, but not the obligation, to buy or sell the underlying instrument at an agreed-upon price on or before a specified future date.
  • What is a European call option?

    A European option is an option that can only be exercised at the end of its life, at its maturity. European options tend to sometimes trade at a discount to their comparable American option because American options allow investors more opportunities to exercise the contract.
B.

What is the price of the option?

Option pricing refers to the amount per share at which an option is traded. Options are derivative contracts that give the holder (the "buyer") the right, but not the obligation, to buy or sell the underlying instrument at an agreed-upon price on or before a specified future date.
  • What is the value of the call option?

    Specifically, the intrinsic value of a call option is equal to the underlying price minus the strike price. For a put option, the intrinsic value is the strike price minus the underlying price. By definition, the only options that have intrinsic value are those that are in-the-money.
  • What is the price of a call?

    A call price is the price at which a bond or a preferred stock can be redeemed by the issuer. This price is set at the time the security is issued. Also referred to as "redemption price."
  • How many stocks are in an options contract?

    Options are traded in units called contracts. Each contract entitles the option buyer/owner to 100 shares of the underlying stock upon expiration. Thus, if you purchase seven call option contracts, you are acquiring the right to purchase 700 shares.
C.

What does the price of an option mean?

Definition. The amount per share that an option buyer pays to the seller. The option premium is primarily affected by the difference between the stock price and the strike price, the time remaining for the option to be exercised, and the volatility of the underlying stock.
  • Can you trade options on Etrade?

    A: To trade put options with E-trade it is necessary to have an approved margin account. Investors may sign up for margin accounts with E-trade at us.etrade.com. An option is the right, but not the obligation, to buy or sell a set amount of stock for a predetermined amount of time at a predetermined price.
  • What is the binomial model?

    The binomial option pricing model is an options valuation method developed in 1979. The binomial option pricing model uses an iterative procedure, allowing for the specification of nodes, or points in time, during the time span between the valuation date and the option's expiration date.
  • How does Robin Hood make their money?

    Hi Harry, Robinhood makes money by collecting interest on the cash left in your brokerage account that is not invested. A few dollars here and there spread across millions of users is some serious cash. Robinhood also is/plans to allow users to trade on margin and borrow the money they would like to invest.

Updated: 9th October 2018

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