A Behavioural Approach to the Pricing of European Options

Martina Nardon () and Paolo Pianca ()
Additional contact information
Martina Nardon: Ca’ Foscari University of Venice, Department of Economics, Center for Quantitative Economics
Paolo Pianca: Ca’ Foscari University of Venice, Department of Economics, Center for Quantitative Economics

A chapter in Mathematical and Statistical Methods for Actuarial Sciences and Finance, 2014, pp 219-230 from Springer

Abstract: Abstract Empirical studies on quoted options highlight deviations from the theoretical model of Black and Scholes; this is due to different causes, such as assumptions regarding the price dynamics, markets frictions and investors’ attitude toward risk. In this contribution, we focus on this latter issue and study how to value options within the continuous cumulative prospect theory. According to prospect theory, individuals do not always take their decisions consistently with the maximization of expected utility. Decision makers have biased probability estimates; they tend to underweight high probabilities and overweight low probabilities. Risk attitude, loss aversion and subjective probabilities are described by two functions: a value function and a weighting function, respectively. As in Versluis et al. [15], we evaluate European options; we consider the pricing problem both from the writer’s and holder’s perspective, and extend the model to the put option. We also use alternative probability weighting functions.

Keywords: Weighting Function; Option Price; Prospect Theory; Call Option; Loss Aversion (search for similar items in EconPapers)
Date: 2014
References: Add references at CitEc
Citations:

There are no downloads for this item, see the EconPapers FAQ for hints about obtaining it.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:spr:sprchp:978-3-319-02499-8_20

Ordering information: This item can be ordered from
http://www.springer.com/9783319024998

DOI: 10.1007/978-3-319-02499-8_20

Access Statistics for this chapter

More chapters in Springer Books from Springer
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().