Modern finance · 1950s–1990s

1973

Listed options and the Black-Scholes formula

The Chicago Board Options Exchange opens, and a formula to price options is published.

The Chicago Board Options Exchange opened on 26 April 1973 with standard call options on 16 stocks. The same year, Fischer Black and Myron Scholes published their pricing formula, with Robert Merton extending it.

Traders could now calculate a fair price from volatility and turn a market price back into the volatility it implied.

Ideas it gave us

• 🔮 Black-Scholes model

  The Black-Scholes model is a formula for the fair price of a European option using five inputs: the stock price, strike, time to expiry, risk-free interest rate and volatility.

• 🔮 Implied volatility

  Implied volatility is the size of future price swings that an option's market price implies. High implied volatility means options are expensive because traders expect big moves.

• 🔮 In the money

  An option is in the money when exercising it now would pay something: a call whose strike is below the stock price, or a put whose strike is above it. At the money means the strike equals the price.

• 🔮 Out of the money

  An option is out of the money when exercising it now would pay nothing: a call with a strike above the stock price, or a put with a strike below it. Its whole premium is time value.

• 🔮 Call option

  A call option is a contract that gives its buyer the right, but not the obligation, to buy a stock at a set price (the strike) before or at a set date. Buyers profit when the stock rises above the strike by more than the premium paid.

• 🔮 Put option

  A put option is a contract that gives its buyer the right to sell a stock at a set price (the strike) before or at a set date. Buyers profit when the stock falls below the strike by more than the premium paid.