The No-Arbitrage Price Relations in Options Valuation

12 Pages Posted: 22 Apr 2012

Date Written: April, 21 2012

Abstract

An arbitrage arises when a non-investment, riskless undertaking results in the generation of profits. However, under efficient markets such opportunities are exploited as soon as they arise, by arbitrageurs- who are market participants with the ability to identify discrepancies in the pricing of securities, and hence trading such securities to make positive returns. The antithesis to arbitrage, a no-arbitrage price relation, makes it possible to value securities since under this condition they are assumed to grow at the risk-free rate. This paper identifies three types of no-arbitrage price relations as: lower bounds, put-call parity, and inter-market relations. A link is drawn between no-arbitrage price relation and options valuation, and in this regard, differences between the two major types of traded options, styled as European and American are highlighted. In addition, the paper looks at how both styles of options can be priced continuously, or discretely.

Keywords: arbitrage, put-call parity ,risk free rate, options valuation

Suggested Citation

Tebogo, Baitshepi, The No-Arbitrage Price Relations in Options Valuation (April, 21 2012). Available at SSRN: https://ssrn.com/abstract=2043475 or http://dx.doi.org/10.2139/ssrn.2043475

Baitshepi Tebogo (Contact Author)

The Learning Village(Pty)Ltd ( email )

P.O.Box 2039
Mogoditshane
Botswana

HOME PAGE: http://www.baitshepi-tebogo.com

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