Applications of the black-scholes model
Tay, Keenan Mun Jin
Date of Issue2016-05-30
School of Mechanical and Aerospace Engineering
In recent times, financial markets worldwide have been trading heavily on financial derivatives such as options apart from stocks. Options trading became really popular when the Black-Scholes model came about, a mean of pricing options fairly. Fischer Black, Myron Scholes and Robert Merton came up with it with the help of geometric Brownian motion, risk neutral measures and stochastic calculus. The resulting equation turned out to be similar to that of a heat diffusion equation in thermodynamics. However, the model relies heavily on certain assumptions which are impractical. In addition, there lies a mathematical inconsistency in the build up to the derivation of the equation. The economy will be impacted by a wrongly priced option as it affects the perceived risks that one undertakes during investment. Thus, this study aims to find an alternative method which is independent to that of the Black-Scholes model in pricing options. Everything in nature in general has been found to undertake the most economical path whereby action is minimized. By following suit, the financial system would benefit from it. An analysis of the current market and its prices is carried out so as to model the current situation. By doing so, this study would then apply the Hamilton’s principle and identify the corresponding lagrangian.
Final Year Project (FYP)
Nanyang Technological University