Pricing by Arbitrage
The ‘unreasonable effectiveness’ of mathematics is evidenced by the frequency with which mathematical techniques that were developed without thought for practical applications find unexpected new domains of applicability in various spheres of life. This phenomenon has customarily been observed in the physical sciences; in the social sciences its impact has perhaps been less evident. One of the more remarkable examples of simultaneous revolutions in economic theory and market practice is provided by the opening of the world’s first options exchange in Chicago in 1973, and the ground-breaking theoretical papers on preference-free option pricing by Black and Scholes  (quickly extended by Merton ) which appeared in the same year, thus providing a workable model for the ‘rational’ market pricing of traded options.
KeywordsStock Price Option Price Call Option Contingent Claim Future Contract
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