Scholes On The Intuition Behind Black-Scholes

The Black-Scholes model for options pricing is the starting point understanding how to value derivatives, but the mathematics involved can be intimidating and at this point sophisticated options traders are working with more sophisticated models (and Monte Carlo simulations) anyways. But for anyone interested in the thought process behind the heavy math, Nobel Laureate Myron Scholes explains how to interpret the equation that bears his name in an interview with the CFA Institute’s Larry Cao.

Valuing options by creating an alternate portfolio

Scholes explains that the Black-Scholes model values an option by imagining that there is an alternate portfolio made up of stocks and bonds that perfectly mimics the behavior of the option over a short period of time....