33 lines
1.4 KiB
Plaintext
33 lines
1.4 KiB
Plaintext
The Black-Scholes-Merton Model • 33
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Okay, even if the last assumption is a little hard to swallow, the first
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three sound plausible, especially if you have read something about the
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efficient market hypothesis (EMH). Suffice it to say that these assumptions
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express the “orthodox” opinion held by financial economists. Most finan-
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cial economists would say that these assumptions describe correctly, in
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broad-brush terms, how markets work. They acknowledge that there may
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be some exceptions and market frictions that skew things a bit in the real
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world but that on the whole the assumptions are true.
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Let us now use these assumptions to build a picture of the future
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stock price range predicted by the BSM.
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Start with an Underlying Asset
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First, imagine that we have a stock that is trading at exactly $50 right now
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after having fluctuated a bit in the past.
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Advanced Building Corp. (ABC)
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5/18/2012 5/20/2013 249 499 749 999
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100
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90
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80
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70
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60
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50
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40
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30
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20
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Date/Day Count
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Stock Price
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I am just showing one year of historical trading data and three years
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of calendar days into the future. Let’s assume that we want to use the BSM
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to predict the likely price of this asset, Advanced Building Corp. (ABC),
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three years in the future.
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The BSM’s first assumption—that markets are efficient and stock
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prices are perfect reflections of the worth of the corporation—means that if |