Anchoring Heuristic in Option Pricing

Hammad Siddiqi

MPRA Paper from University Library of Munich, Germany

Abstract: An anchoring adjusted option pricing model is put forward in which the risk of the underlying stock is used as a starting point that gets adjusted upwards to estimate call option risk. Anchoring bias implies that such adjustments are insufficient. Black-Scholes formula is a special case with no anchoring bias. The new model provides a unified explanation for a number of option pricing puzzles including the implied volatility skew, superior historical performance of covered call writing, and worse-than-expected performance of zero beta straddles. The model is also consistent with recent empirical findings regarding leverage adjusted option returns. Anchoring adjusted jump diffusion and stochastic volatility models are also put forward.

Keywords: Anchoring; Option Pricing; Behavioral Finance; Implied Volatility; Option Pricing Puzzles (search for similar items in EconPapers)
JEL-codes: G02 G13 (search for similar items in EconPapers)
Date: 2015-03-01
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (8)

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https://mpra.ub.uni-muenchen.de/63430/1/MPRA_paper_63430.pdf revised version (application/pdf)
https://mpra.ub.uni-muenchen.de/63781/1/MPRA_paper_63781.pdf revised version (application/pdf)
https://mpra.ub.uni-muenchen.de/68611/1/MPRA_paper_68611.pdf revised version (application/pdf)

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