The Intelligent Investor’s Guide to Option Pricing  •  61
volatility of 20 percent per year for this stock. Visually, our assumptions 
yield the following:
Advanced Building Corp. (ABC)
5/18/2012 5/20/2013 249 499 749 999
100
90
80
70
60
50
40
30
20
Date/Day Count
Stock Price
GREEN
A forward volatility of 20 percent per year suggests that after 
three years, the most likely range for the stock’s price according to the 
BSM will be around $41 on the low side to around $82 on the high 
side. Furthermore, we can tell from our investigations in Chapter 2 that 
this option will be worth something, but probably not much—about the 
same as or maybe a little more than the one-year, $60 strike call option 
we saw in Chapter 2.
4
Now let’s increase our assumption for volatility over the life of the 
contract to 40 percent per year. Increasing the volatility means that the 
BSM probability cone becomes wider at each point. In simple terms, what 
we are saying is that it is likely for there to be many more large swings in 
price over the term of the option, so the range of the possible outcomes 
is wider.
Here is what the graph looks like if we double our assumptions 
regarding implied volatility from 20 to 40 percent: