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An Intuitive Explanation of Black–Scholes

gregorygundersen.com · 8,940 words · saved by 1 readers

The Black–Scholes formula is the crown jewel of quantitative finance. The formula gives the fair price of a European-style option, and its success can ultimately be measured by its impact on option markets. Before the formula’s publication in 1973 (Black & Scholes, 1973; Merton, 1973), option markets were relatively small and illiquid, and options were not traded in standardized contracts. But after the formula’s publication, option markets grew rapidly. The first exchange to list standardized stock options, the Chicago Board Options Exchange, was founded the same year that Black–Scholes was published. And today, options are a highly liquid, mature, and global asset class, with many different tenors, exercise rights, and underlying assets. The financial and mathematical theory underpinning Black–Scholes is rich, and one could easily spend months learning the foundational ideas: continuous-time martingales, Brownian motion, stochastic integration, valuation through replication, and risk

An Intuitive Explanation of Black–Scholes --> Home Blog RSS An Intuitive Explanation of Black–Scholes I explain the Black–Scholes formula using only basic probability theory and calculus, with a focus on the big picture and intuition over technical details. Published 28 September 2024 The Black–Scholes formula is the crown jewel of quantitative finance. The formula gives the fair price of a European-style option, and its success can ultimately be measured by its impact on option markets. Before the formula’s publication in 1973 (Black & Scholes, 1973; Merton, 1973) , option markets were relati

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