Using the Black-Scholes Model,explain What Happens to the Value of a Call

question 14

Essay

Using the Black-Scholes model,explain what happens to the value of a call as S,T,and σ2 change. Why is the relationship between risk and price different for options than for other securities?
1. As S increases,C (the call premium)increases because the right to buy at the fixed price E has more value as the sale price S rises.
2. As T increases,C increases and as T decreases,C decreases. The less time remaining on the option,the lower its value since there is less time during which the option right is available.
3. As σ increases,C increases.

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Definitions:

Short-Term Price Differences

Variations in prices or costs that occur over a short period, often related to fluctuations in demand, supply, or market conditions.

Fair Value

An estimate of the market value of an asset or liability, based on current market prices or valuations.

IFRS

International Financial Reporting Standards, a set of accounting principles for financial reporting used globally.

Equity Investments

Equity investments involve purchasing shares of stock in a company, representing partial ownership and the potential to earn returns through dividends and capital appreciation.