The principle of pricing in the risk-neutral measure is the foundation of quantitative analysis. I have already written a post which gives an intuitive description of the concept of a risk premium and which discusses some aspects of the risk-neutral approach (see here). In this post I want to look again at risk-neutral pricing. It … Continue reading The easy route to risk-neutral measure pricing
A quick post to show a link to the blog of Tim Johnson at Heriot-Watt Unviersity. Lots of writing on derivatives topics, from models to regulations, plus plenty on markets and the crisis. Worth a look. Click here to visit.
Gillian Tett is a well-respected writer for the Financial Times and frequently picks up the topic of complexity in financial markets. In a recent article (see here) she makes a case that the era of number crunching is over, and that the world of investments is back again firmly in the domain of human relationships … Continue reading Are our models too complex?
This post is a LeanPost: it will be developed further depending on feedback from my readers. See my note here on what a LeanPost is. Update, January 2014: Dear Reader, for the last year I have been struggling to find time to work on this blog, and this article is particularly in need of further work. … Continue reading Galois Theory for dummies
Armed with the Hardy Decomposition for option prices, it now becomes much easier to understand why the smile exists. To be clear, options trader might use the smile to manage supply & demand, but here we discuss the mathematical basis for smile - which is important if you want to understand how to generate smile … Continue reading Smile, it’s Volga!
We all know that option prices are calculated with the Black-Scholes formula, using a volatility, time-to-maturity, strike and forward. Typically you just chuck them all into your computer and let it spit out the number. Trouble with this is how do you get an intuition for prices, especially when you are looking at options trades … Continue reading Calculating option prices in your head
In this post I give a short, but I think rather usefully direct reason for why the yield curve should slope upwards. All it requires is for you to put yourself in the shoes of an investor that has to lock up their money in a bond for a fixed amount of time (and a … Continue reading Why does the yield curve slope upwards?