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- nikhilessar
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What discount rates should be considered for equity option valuations
Hi,I have a basic question, which might have been answered in this forum but I am unable to search it that's why asking this again.In option valuation should I use the risk free rate or discount rate adjusted for credit risk for the entity. Your explanations will be of great help
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- nikhilessar
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What discount rates should be considered for equity option valuations
Hi Guys,Simple (seemigly!) equity option question but no reply. As per dynamic hedging argument by mixing the bond and the option you have a risk less position so you should use risk free rate for option valuation. But look the argument again is the position really risk less or the position corresponds to risky bond on the same entity , i.e., the bond with credit risk. Any answer ............
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- Martinghoul
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What discount rates should be considered for equity option valuations
There is no definitive answer... This question has been asked in a variety of threads here (in relation to various instruments). You have to do what makes sense and feels right to you.
What discount rates should be considered for equity option valuations
QuoteOriginally posted by: nikhilessarHi,I have a basic question, which might have been answered in this forum but I am unable to search it that's why asking this again.In option valuation should I use the risk free rate or discount rate adjusted for credit risk for the entity. Your explanations will be of great helpA short amplification to what said by Martinghoul. In option pricing we need to write equations which express equality unknown cash flows and known one. Most popular law is equality expected PVs but it is not a unique, universal law.
What discount rates should be considered for equity option valuations
being less wise than Martinghoul i dare to give a definitive answer, it shouldnt matter- it is just the same as the question which numeraire to use (or not? i am referring to use corporate bond instead of risk free bonds for hedging), and a change of numeraire shouldnt change the price of a derivative (but is does change the pricing measure of course). so much for theory. in practice other considerations may come in additionally