On CAPM and Black-Scholes, differing risk-return strategies

Joseph McCauley () and Gemunu H. Gunaratne

MPRA Paper from University Library of Munich, Germany

Abstract: In their path-finding 1973 paper Black and Scholes presented two separate derivations of their famous option pricing partial differential equation (pde). The second derivation was from the standpoint that was Black’s original motivation, namely, the capital asset pricing model (CAPM). We show here, in contrast, that the option valuation is not uniquely determined; in particular, strategies based on the delta-hedge and CAPM provide different valuations of an option although both hedges are instantaneouly riskfree. Second, we show explicitly that CAPM is not, as economists claim, an equilibrium theory.

Keywords: Capital asset pricing model (CAPM); nonequilibrium; financial markets; Black-Scholes; option pricing strategies (search for similar items in EconPapers)
JEL-codes: C0 C65 D53 (search for similar items in EconPapers)
Date: 2003
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Citations: View citations in EconPapers (1)

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