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bearish
Posts: 5005
Joined: February 3rd, 2011, 2:19 pm

### Re: Chatroom

Of course, now we know that the proper discount rate to apply is the return on the (dynamic) portfolio of the stock and the bond that a) maximizes the expected growth rate and, equivalently, b) makes the discounted stock and bond prices martingales under P.

tagoma
Topic Author
Posts: 2519
Joined: February 21st, 2010, 12:58 pm

### Re: Chatroom

thank you bearish.

DavidJN
Posts: 219
Joined: July 14th, 2002, 3:00 am

### Re: Chatroom

If memory serves me right, he was applying a pretty standard discounted expected cash flow argument to Samuelson’s lognormal stock price model to find the present value of the option. That gives you the right general shape of the resulting valuation formula, but with a risk adjusted discount rate that is hard to determine.
To frame an option pricing model requiring (or, more practically, worked in reverse, implying) a risky discount rate requires imposing some restrictions on utility preferences (as per Rubinstein, Ross, and Carr) or an asset pricing model (e.g. CAPM, APT). I took the latter approach in the late 1980’s, as I was suspicious of aggregating utility from the small to the large.

An interesting practical problem is that a formulation with risky discount rates introduces a second unobservable into the valuation equation, which complicates things. Joint estimation of implied volatility and expected return from the same data is possible but messy. I used a 2-step procedure – first imply Black-world vols, and then use that vol in the risky discount rate option model to back out expected return from option price.

A related question if you would humour me – within the assumptions of the model, is the usual risk-neutral Black Scholes implied volatility an unbiased estimate of real world vol, or is somehow affected by the risk-neutral valuation? I vote for the former.

Marsden
Posts: 307
Joined: August 20th, 2001, 5:42 pm
Location: Maryland

### Re: Chatroom

A related question if you would humour me – within the assumptions of the model, is the usual risk-neutral Black Scholes implied volatility an unbiased estimate of real world vol, or is somehow affected by the risk-neutral valuation? I vote for the former.
Within the assumptions of the model -- which include the ability to make instantaneous, costless trades -- Black-Scholes implied volatility is an unbiased estimate of real world volatility.

bearish
Posts: 5005
Joined: February 3rd, 2011, 2:19 pm

### Re: Chatroom

This is true, but in a slightly trivial sense: within the assumptions of the model, real world volatility is a constant and the model implied volatility will equal this constant. Furthermore, observing a time series of prices over an arbitrarily short time period, if sampled with sufficient frequency, will reveal this volatility.

Alan
Posts: 2741
Joined: December 19th, 2001, 4:01 am
Location: California
Contact:

### Re: Chatroom

If memory serves me right, he was applying a pretty standard discounted expected cash flow argument to Samuelson’s lognormal stock price model to find the present value of the option. That gives you the right general shape of the resulting valuation formula, but with a risk adjusted discount rate that is hard to determine.
To frame an option pricing model requiring (or, more practically, worked in reverse, implying) a risky discount rate requires imposing some restrictions on utility preferences (as per Rubinstein, Ross, and Carr) or an asset pricing model (e.g. CAPM, APT). I took the latter approach in the late 1980’s, as I was suspicious of aggregating utility from the small to the large.

An interesting practical problem is that a formulation with risky discount rates introduces a second unobservable into the valuation equation, which complicates things. Joint estimation of implied volatility and expected return from the same data is possible but messy. I used a 2-step procedure – first imply Black-world vols, and then use that vol in the risky discount rate option model to back out expected return from option price.

A related question if you would humour me – within the assumptions of the model, is the usual risk-neutral Black Scholes implied volatility an unbiased estimate of real world vol, or is somehow affected by the risk-neutral valuation? I vote for the former.
It's not clear to me that such a two-parameter model exists in continuous-time, rendering the arguments about the vol suspect. What exactly are the assumptions of the model?

tagoma
Topic Author
Posts: 2519
Joined: February 21st, 2010, 12:58 pm

### Re: Chatroom

Hello. Is there that End od The Year Science Quizz put together by I don't remember what office in the Netherlands this year? And are we in?

Paul
Posts: 6177
Joined: July 20th, 2001, 3:28 pm

### Re: Chatroom

I don’t know.

There was also the GCHQ (spies) one.

If you find something…

Cuchulainn
Posts: 18239
Joined: July 16th, 2004, 7:38 am
Location: Llanfairpwllgwyngyllgogerychwyrndrobwllllantysiliogogogoch

### Re: Chatroom

Hello. Is there that End od The Year Science Quizz put together by I don't remember what office in the Netherlands this year? And are we in?
No. it was considered too elitist.
And TV show, it was as boring as hell, said my mother-in-law, can't fool her.
We Dutch just want to have fun.
They sought it with thimbles, they sought it with care; They pursued it with forks and hope; They threatened its life with a railway-share; They charmed it with smiles and soap.

tagoma
Topic Author
Posts: 2519
Joined: February 21st, 2010, 12:58 pm

### Re: Chatroom

Hello. Is there that End od The Year Science Quizz put together by I don't remember what office in the Netherlands this year? And are we in?
No. it was considered too elitist.
And TV show, it was as boring as hell, said my mother-in-law, can't fool her.
We Dutch just want to have fun.

We Dutch just want to have fun.

Remnants of the times when the Netherlands was a French colony, I assume.

Cuchulainn
Posts: 18239
Joined: July 16th, 2004, 7:38 am
Location: Llanfairpwllgwyngyllgogerychwyrndrobwllllantysiliogogogoch

### Re: Chatroom

Ja, Old habits die hard.
They sought it with thimbles, they sought it with care; They pursued it with forks and hope; They threatened its life with a railway-share; They charmed it with smiles and soap.

Cuchulainn
Posts: 18239
Joined: July 16th, 2004, 7:38 am
Location: Llanfairpwllgwyngyllgogerychwyrndrobwllllantysiliogogogoch

### Re: Chatroom

And yesterday, Sinterklaas
Same melody as Belgie/Luxembourg, different lyrics.
They sought it with thimbles, they sought it with care; They pursued it with forks and hope; They threatened its life with a railway-share; They charmed it with smiles and soap.

tagoma
Topic Author
Posts: 2519
Joined: February 21st, 2010, 12:58 pm

### Re: Chatroom

Probably a trivial question for most of you.
Do you know what these things are?

Alan
Posts: 2741
Joined: December 19th, 2001, 4:01 am
Location: California
Contact:

### Re: Chatroom

teleprompters

tagoma
Topic Author
Posts: 2519
Joined: February 21st, 2010, 12:58 pm

### Re: Chatroom

teleprompters
thank you Sir.
I wasn't a 100% sure.