UN-13B

A
1
2
3
4
5
6
7
8

S0
X
T
r
Sigma
d1

9 d2
10
11 N(d1)
12 N(d2)
13
14 Call price, C0
15 Put price, P0
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32

Stock
price

Call
price

Intrinsic
value

The Black-Scholes Option-Pricing Formula

100
90
0.50000
4.00%
35%

Current stock price

Exercise price
Time to maturity of option (in years)
Risk-free rate of interest
Stock volatility

0.6303 <-- (LN(S0/X)+(r+0.5*sigma^2)*T)/(sigma*SQRT(T))

0.3828 <-- d1-sigma*SQRT(T)
0.7357 <-- Uses formula NormSDist(d1)
0.6491 <-- Uses formula NormSDist(d2)
16.32 <-- S0*N(d1)-X*exp(-r*T)*N(d2)
4.53 <-- call price - S0 + X*Exp(-r*T): by Put-Call parity
4.53 <-- X*exp(-r*T)*N(-d2) - S*N(-d1): direct formula

45
47
49
51
53
55
57
59
61
63
65

0.01538
0.02765
0.04730
0.07743
0.12184
0.18501
0.27204
0.38853
0.54042
0.73384
0.97488

0
0
0
0
0
0
0
0
0
0
0

Black-Scholes Price versus Intrinsic Value

1.2
1
0.8
0.6
0.4
0.2
0
45

50

55

60

Stock price S ($)

Call price

Intrinsic value

65

70

1
2
3
4
5
6
7

COMPUTING T USING EXCEL

DATE FUNCTION
Current date
Expiration date
Days between dates
T, time in years to expiration

2/8/2002
7/19/2002
161
0.441096

<-- =DATE(2002,2,8)
<-- =DATE(2002,7,19)
<-- =B3-B2
<-- =B4/365

Note: We formatted cell B4 to give a number, using

Format|Cells|Number|General

UN-13B

1
2
3
4
5
6
7
8

Stock
price

Call
price

Intrinsic
value

The Black-Scholes Option-Pricing Formula

This version shows the actual Excel formulas
S0
X
T
r
Sigma
d1

9 d2
10
11 N(d1)
12 N(d2)
13
14 Call price, C0
15 Put price, P0
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32

100
90
0.50000
4.00%
35%

Current stock price

Exercise price
Time to maturity of option (in years)
Risk-free rate of interest
Stock volatility

0.6303 <-- =(LN(B2/B3)+(B5+0.5*B6^2)*B4)/(B6*SQRT(B4))

0.3828 <-- =B8-SQRT(B4)*B6
0.7357 <-- =NORMSDIST(B8)
0.6491 <-- =NORMSDIST(B9)
16.32 <-- =B2*B11-B3*EXP(-B5*B4)*B12
4.53 <-- =B14-B2+B3*EXP(-B5*B4)
4.53 <-- =B3*EXP(-B5*B4)*NORMSDIST(-B9)-B2*NORMSDIST(-B8)

45
47
49
51
53
55
57
59
61
63
65

0.01538
0.02765
0.04730
0.07743
0.12184
0.18501
0.27204
0.38853
0.54042
0.73384
0.97488

0
0
0
0
0
0
0
0
0
0
0

Black-Scholes Price versus Intrinsic Value

1.2
1
0.8
0.6
0.4
0.2
0
45

50

55

60

Stock price S ($)

Call price

Intrinsic value

65

70

MICROSOFT STOCK PRICES--ANNUAL

DATA
Closing
stock
price
2.7257
5.0104
5.4062
5.3203
7.4219
11.5625
25.5000
37.2969
87.5000
97.8750
61.0625
66.2500

2
Date
3
31-Dec-90
4
31-Dec-91
5
31-Dec-92
6
31-Dec-93
7
31-Dec-94
8
31-Dec-95
9
31-Dec-96
10
31-Dec-97
11
31-Dec-98
12
31-Dec-99
13
31-Dec-00
14
31-Dec-01
15
16 Average return
17 Return variance
18 Return standard deviation

Return
60.88% <-- =LN(B4/B3)
7.60%
-1.60%
33.29%
44.33%
79.09%
38.02%
85.27%
11.21%
-47.18%
8.15%
29.01% <-- =AVERAGE(C4:C14)
13.61% <-- =VARP(C4:C14)
36.90% <-- =STDEVP(C4:C14)

1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25

MICROSOFT STOCK PRICES

MONTHLY DATA FOR 2001
Date
29-Dec-00
31-Jan-01
28-Feb-01
30-Mar-01
30-Apr-01
31-May-01
29-Jun-01
31-Jul-01
31-Aug-01
28-Sep-01
31-Oct-01
30-Nov-01
31-Dec-01

Close
43.3750
61.0630
59.0000
54.6880
67.7500
69.1800
73.0000
66.1900
57.0500
51.1700
58.1500
64.2100
66.2500

34.20% <-- =LN(B4/B3)

-3.44% <-- =LN(B5/B4)
-7.59% <-- =LN(B6/B5)
21.42%
2.09%
5.37%
-9.79%
-14.86%
-10.88%
12.79%
9.91%
3.13%

Monthly return statistics

Average return
Return variance
Return standard deviation

3.53% <-- =AVERAGE(C4:C15)

1.91% <-- =VARP(C4:C15)
13.81% <-- =STDEVP(C4:C15)

Annualized return statistics

Average return
Return variance
Return standard deviation

42.36% <-- =12*C18

22.88% <-- =12*C19
47.84% <-- =SQRT(C24)

DISCRETE VERSUS CONTINUOUS RETURNS

1
2 Computing the returns from prices
3 Pt
100
4 Pt+1
120
5
6 Discrete return
20.00% <-- =B4/B3-1
7 Continously-compounded return
18.23% <-- =LN(B4/B3)
8
9 Computing the future price from the returns
10 Annual return, r
12%
11 Period over which you get the return (in years)
0.25
12
13 Initial investment Pt
100
14 Future value Pt+1
If r is the annual discrete return
15
102.8737 <-- =B13*(1+B10)^B11
If r is the annual continuous return
16
103.0455 <-- =B13*EXP(B10*B11)

UN-13B

A
1
2
3
4
5
6
7
8

The Black-Scholes Option-Pricing Formula

S0
X
T
r
Sigma

35
35
0.50000
6.00%
48.71%

d1

0.2593 <-- (LN(S/X)+(r+0.5*sigma^2)*T)/(sigma*SQRT(T))

-0.0851 <-- d1-sigma*SQRT(T)

9 d2
10
11 N(d1)
12 N(d2)
13
14 Call price, C0
15 Put price, P0
16

Current stock price

Exercise price
Time to maturity of option (in years)
Risk-free rate of interest
Stock volatility

0.6023 <-- Uses formula NormSDist(d1)

0.4661 <-- Uses formula NormSDist(d2)
5.25 <-- S*N(d1)-X*exp(-r*T)*N(d2)
4.22 <-- call price - S + X*Exp(-r*T): by Put-Call parity
4.22 <-- X*exp(-r*T)*N(-d2) - S*N(-d1): direct formula

A
1

BLACK-SCHOLES OPTION FUNCTIONS

The functions in this spreadsheet--Calloption and Putoption-2 were defined by the author.
3 S0
100 Current stock price
4 X
90 Exercise price
5 T
0.50000 Time to maturity of option (in years)
6 r
4.00% Risk-free rate of interest
7 Sigma
35% Stock volatility
8
9 Call price, C0
16.32 <-- =calloption(B3,B4,B5,B6,B7)
10 Put price, P0
4.53 <-- =putoption(B3,B4,B5,B6,B7)
11
12

13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33

Stock price
65
70
75
80
85
90
95
100
105
110
115
120
125
130
135
140

This cell is part of the

data table header; it
contains the formula
=B11.

Option
BS call
intrinsic
price
value
16.32
10
0.974883
0
1.823559
0
3.084283
0
4.808625
0
7.015918
0
9.695159
0
12.81164
5
16.31545
10
20.14963
15
24.25671
20
28.58314
25
33.08179
30
37.713
35
42.4445
40
47.25076
45
52.11205
50

60

Comparing the

50
40
30
20
10
0
65
-10

2
3
4
5
6
cell is part of the
7
8
9
10
11
12

This cell is part of the data table

header. It contains a formula
=MAX(B5-B6,0) which the
option's intrinsic value.

13
14
15
16
17
Comparing the BS Option Price (the curved line)
18
to the Option Intrinsic Value
19
when the stock price S is varied
20
21
22
23
24
25
26
27
28
29 65
85
105
125
30
31
Stock price
32
33

UN-13B

A
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16

TWO IMPLIED VOLATILITY FUNCTIONS

Using Callvolatility to compute the implied volatility for a call
S0
35 Current stock price
X
35 Exercise price
T
0.50000 Time to maturity of option (in years)
r
6.00% Risk-free rate of interest
Target
5.25 <-- This is the current call price we want to match
Implied call volatility
48.71% <-- =CallVolatility(B3,B4,B5,B6,B7)
Using Putvolatility to compute the implied volatility for a call
S0
35 Current stock price
X
35 Exercise price
T
1.00000 Time to maturity of option (in years)
r
6.00% Risk-free rate of interest
Target
3.44 <-- This is the current put price we want to match
Implied put volatility
32.49% <-- =putVolatility(B11,B12,B13,B14,B15)

UN-13B

S0
X
T
r
Sigma

100
90
0.50000
4.00%
35%

Call price, C0

16.3154 <-- =calloption(B2,B3,B4,B5,B6)

9 Put price, P0
10
11

4.5333 <-- =putoption(B2,B3,B4,B5,B6)

12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36
37
38
39
40
41
42
43
44
45
46
47

BLACK-SCHOLES PRICE SENSITIVITY TO CURRENT STOCK PRICE S 0

1
2
3
4
5
6
7
8

Current stock price

Exercise price
Time to maturity of option (in years)
Risk-free rate of interest
Stock volatility
This cell is part of the data table header. It
contains the formula =Max(B2-B3,0); this is
the option's intrinsic value.

This cell is part of the data

table header. It contains
the formula =B8.

BlackScholes
price

Stock price at time 0, S0

Intrinsic
value

16.32
0.97
1.82
3.08
4.81
7.02
9.70
12.81
16.32
20.15
24.26
28.58
33.08
37.71
42.44
47.25
52.11

65
70
75
80
85
90
95
100
105
110
115
120
125
130
135
140

10.00
0.00
0.00
0.00
0.00
0.00
0.00
5.00
10.00
15.00
20.00
25.00
30.00
35.00
40.00
45.00
50.00

Comparing the Black-Scholes Option Price (curved line) to

the Option Intrinsic Value When the Stock Price S0 is
Varied

60

50
40
Black-Scholes
price

30

Intrinsic
value

20

10
65

75

85

95

105

115

Stock price at date 0, S0

125

135

145

A
1
2
3
4
5
6

7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36
37
38
39
40
41
42

BLACK-SCHOLES SENSITIVITY ON SIGMA

S0
X
T
r

100
90
0.50000
4.00%

Current stock price

Exercise price
Time to maturity of option (in years)
Risk-free rate of interest

This cell is part of the data table

header; it contains the formula
=calloption(B2,B3,B4,B5,20%).
Stock price, S0
10
20
30
40
50
60
70
80
90
100
110
120
130
140
150
160

This cell is part of the data table

header. It contains the formula
=calloption(B2,B3,B4,B5,50%).

BS price,
sigma =
BS price,
20%
sigma = 50%
13.15
19.91
0.00
0.00
0.00
0.00
0.00
0.01
0.00
0.09
0.00
0.53
0.01
1.78
0.24
4.25
1.72
8.14
5.96
13.41
13.15
19.91
22.14
27.38
31.86
35.60
41.80
44.37
51.78
53.53
61.78
62.96
71.78
72.57

Black-Scholes (BS) Options Price for Two Sigmas

Higher Sigma gives a Higher BS Option Price
80
70
60
50
40
30
20
10
0

BS price,
sigma = 20%
BS price,
sigma = 50%

10 20 30 40 50 60 70 80 90 100 110 120 130 140 150 160

Stock price, S0

MICROSOFT CALL OPTIONS: Comparing BS to actual prices

This spreadsheet computes the Black-Scholes value of the Microsoft July 2002 options on 8 February 2002 and compares
2 actual market prices. As you can see, the Black-Scholes formula works pretty well!
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36

S0
T
r
Sigma

60.65
0.44110
1.70%
31.66%

Computing the time to maturity T

Current date
Expiration date
Time (days)
Time (% of year)

Microsoft stock, closing price 8 Feb 02

Time to maturity of option (in years)
Risk-free rate of interest
<-- =CallVolatility(B5,60,B6,B7,D13)

Exercise
price
50
55
60
65
70
75
80
85

BS call
Actual call
price
market price
12.07
12.30
8.44
8.70
5.60
5.60
3.53
3.80
2.13
2.15
1.23
1.10
0.69
0.60
0.37
0.35

Market minus BS
in dollars
0.23
0.26
0.00
0.27
0.02
-0.13
-0.09
-0.02

Market minus BS
in percentage
1.89%
2.94%
0.00%
7.08%
1.05%
-11.93%
-14.74%
-6.80%

BS Call Option Pricing

Microsoft July 2002 Call Options

10%
5%
0%
50

55

60

65

70

-5%
-10%
-15%
-20%

Market minus BS
in percentage

75

80

85

BS to actual
1 prices

n 8 February 2002 and compares the prices to the

2

3
mputing the time
4 to maturity T
5
8-Feb-02
6
19-Jul-02
7
161 <-- =G6-G5
8
0.4411 <-- =G7/365
9
10
11 <-- =(D11-C11)/D11
12 <-- =(D12-C12)/D12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36

MICROSOFT PUT OPTIONS: Comparing BS to actual prices

This spreadsheet computes the Black-Scholes value of the Microsoft July 2002 options on 8 February 2002 and compares
2 actual market prices. As you can see, the Black-Scholes formula works pretty well!
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34

S0
T
r
Sigma

60.65
0.44110
1.70%
37.35%
Exercise
price
45
50
55
60
65
70

Computing the time to maturity T

Current date
Expiration date
Time (days)
Time (% of year)

Microsoft stock, closing price 8 Feb 02

Time to maturity of option (in years)
Risk-free rate of interest
<-- =putVolatility(B5,60,B6,B7,D14)
BS put
price
0.67
1.60
3.16
5.40
8.30
11.77

Actual put
market price
1.00
2.00
3.30
5.40
8.30
12.30

Market minus BS
in dollars
0.33
0.40
0.14
0.00
0.00
0.53

Market minus BS
in percentage
32.72%
19.79%
4.27%
0.00%
0.00%
4.31%

BS Put Option Pricing

Microsoft July 2002 Put Options

35%
30%
25%
20%
15%

Market minus BS
in percentage

10%
5%
0%
45

50

55

60

65

70

BS to actual
1 prices

n 8 February 2002 and compares the prices to the

2

3
mputing the time
4 to maturity T
5
8-Feb-02
6
19-Jul-02
7
161 <-- =G6-G5
8
0.4411 <-- =G7/365
9
10
11 <-- =(D11-C11)/D11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
Market minus
27 BS
in percentage
28
29
30
31
32 70
33
34

MICROSOFT OPTIONS: Computing the implied volatilities

This spreadsheet computes the implied volatility of the Microsoft July 2002 options on 8 February 2002. The average impl
2 volatility of the calls appears to be lower than the average implied volatility of the puts.

10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35

Computing the time to maturity

Current date
Expiration date
Time (days)
Time (% of year)

60.65 Microsoft stock, closing price 8 Feb 02

0.44110 Time to maturity of option (in years)
1.70% Risk-free rate of interest

Exercise
price
50
55
60
65
70
75
80
85

Actual call
market price
12.30
8.70
5.60
3.80
2.15
1.10
0.60
0.35

35%

Implied
volatility
34.11% <-- =CallVolatility($B$5,B11,$B$6,$B$7,C11)
33.56% <-- =CallVolatility($B$5,B12,$B$6,$B$7,C12)
31.66%
33.36%
31.82%
30.44%
30.52%
31.22%

Microsoft Jul 2002 Calls--Calcuting the Implied

Volatility

34%
34%
Implied volatility

3
4
5 S0
6 T
7 r
8
9

33%
33%
32%
32%
31%
31%
30%
45

50

55

60

65

70

Exercise price

75

80

85

plied volatilities
1

bruary 2002. The average implied

2

3
mputing the time
4 to maturity
5
8-Feb-02
6
19-Jul-02
7
161 <-- =G6-G5
8
0.4411 <-- =G7/365
9

10
1,$B$6,$B$7,C11)
11
2,$B$6,$B$7,C12)
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35

MICROSOFT OPTIONS: Computing the implied volatilities

This spreadsheet computes the implied volatility of the Microsoft July 2002 options on 8 February 2002. The average impl
2 lower than the average implied volatility of the puts.
3
4
5 S0
6 T
7 r
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36
37
38

Computing the time to maturity

Current date
Expiration date
Time (days)
Time (% of year)

60.65 Microsoft stock, closing price 8 Feb 02

0.44110 Time to maturity of option (in years)
1.70% Risk-free rate of interest

Exercise
price
45
50
55
60
65
70
75
80
85

Actual call
market price

Implied call
volatility

12.30
8.70
5.60
3.80
2.15
1.10
0.60
0.35

34.11%
33.56%
31.66%
33.36%
31.82%
30.44%
30.52%
31.22%

Actual put
market price
1.00
2.00
3.30
5.40
8.30
12.30

Implied put
volatility
42.05%
41.05%
38.37%
37.35%
37.36%
40.92%

=CallVolatility($B$5,B12,$B$6,$B$7,C12)

Comparing the Implied Volatility of MSFT July

2002 Calls and Puts
Implied call
volatility

44%
42%

Implied put
volatility

40%
38%
36%
34%

32%
30%
45

50

55

60

65

70

Exercise price, X

75

80

the implied
1 volatilities

8 February 2002. The average implied volatility of the calls is

2

3
Computing the
4 time to maturity
5
8-Feb-02
6
19-Jul-02
7
161 <-- =G6-G5
8
0.4411 <-- =G7/365
9

10
11 <-- =putVolatility($B$5,B11,$B$6,$B$7,E11)
12
13
14
15
16
17
18
latility($B$5,B12,$B$6,$B$7,C12)
19
20
21
22
23
24
Implied
25 call
volatility
26
27 put
Implied
volatility
28
29
30
31
32
33
34
35
85
36
37
38

UN-13B

A
1
2
3
4
5
6
7
8

The Black-Scholes Option-Pricing Formula

S0
X
T
r
Sigma

35
35
0.50000
6.00%
48.71%

d1

0.2593 <-- (LN(S/X)+(r+0.5*sigma^2)*T)/(sigma*SQRT(T))

-0.0851 <-- d1-sigma*SQRT(T)

9 d2
10
11 N(d1)
12 N(d2)
13
14 Call price
15
16 Actual market price

Current stock price

Exercise price
Time to maturity of option (in years)
Risk-free rate of interest
Stock volatility

0.6023 <-- Uses formula NormSDist(d1)

0.4661 <-- Uses formula NormSDist(d2)
5.25 <-- S*N(d1)-X*exp(-r*T)*N(d2)
5.25

MSFT MONTHLY
PRICE DATA
From CRSP
Date
19970131
19970228
19970331
19970430
19970530
19970630
19970731
19970829
19970930
19971031
19971128
19971231
19980130
19980227
19980331
19980430
19980529
19980630
19980731
19980831
19980930
19981030
19981130
19981231
19990129
19990226
19990331
19990430
19990528
19990630
19990730
19990831
19990930
19991029
19991130
19991231
20000131
20000229
20000331
20000428
20000531
20000630
20000731
20000831
20000929
20001031
20001130

Price
102
97.5
91.688
121.5
124
126.375
141.5
132.188
132.313
130
141.5
129.25
149.188
84.75
89.5
90.125
84.813
108.375
109.938
95.938
110.063
105.875
122
138.688
175
150.125
89.625
81.313
80.688
90.188
85.813
92.563
90.563
92.563
91.047
116.75
97.875
89.375
106.25
69.75
62.563
80
69.813
69.813
60.313
68.875
57.375

20001229
20010131
20010228
20010330
20010430
20010531
20010629
20010731
20010831
20010928
20011031
20011130
20011231

43.375
61.063
59
54.688
67.75
69.18
73
66.19
57.05
51.17
58.15
64.21
66.25

2000
2001
2001
2001
2001
2001
2001
2001
2001
2001
2001
2001
2001

12
1
2
3
4
5
6
7
8
9
10
11
12

29
31
28
30
30
31
29
31
31
28
31
30
31

12/29/2000
1/31/2001
2/28/2001
3/30/2001
4/30/2001
5/31/2001
6/29/2001
7/31/2001
8/31/2001
9/28/2001
10/31/2001
11/30/2001
12/31/2001

A
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19

2
300

3
400

MERRILL WIDGET--THE OPTION TO LEARN

Year
CF of single machine

0
-1000

1
220

Discount rate for machine cash flows

Riskless discount rate
NPV of single machine

12%
6%
-67.48

Number of machines bought next year

Option value of single machine purchased in one more year
NPV of total project

5
143.98 <-- =B24
652.39 <-- =B8+B10*B11

Black-Scholes Option Pricing Formula

S0
X
r
T
Sigma
d1

20 d2
21 N(d1)
22 N(d2)
23 Option value = BS call price
24
25
26
27
28
29
30
31
32
33
34
35
36
37
38
39
40
41

932.52
1000.00
6.00%
1
40%
0.1753

<-- =NPV(B5,C3:G3), PV of machine CFs

Exercise price = Machine cost
Risk-free rate of interest
Time to maturity of option (in years)
<-- Volatility
<-- (LN(S/X)+(r+0.5*sigma^2)*T)/(sigma*SQRT
-0.2247 <-- d1 - sigma*SQRT(T)
0.5696 <--- Uses formula NormSDist(d1)
0.4111 <--- Uses formula NormSDist(d2)
143.98 <-- S*N(d1)-X*exp(-r*T)*N(d2)

Data Table
s
1%
10%
20%
30%
40%
50%
60%
70%

652.39 <-- =B11, Table header

-63.48
97.16
Project Value as F
1400
283.09
1200
468.40
1000
652.39
800
834.59
600
1014.54
1191.81
400
200
0
-200

0%

20%

1
2
4
5
3
200
150
4
5
6
7
8
9
10
11
12
13
:G3), PV of machine
14
CFs
15
16
of option (in years)
17
18
0.5*sigma^2)*T)/(sigma*SQRT(T))
19
20
21
22

23
24
25
26
B11, Table header
27
28
29 Value as Function of Sigma
Project
30
31
32
33
34
35
36
37
3820%
40%
60%
39
Sigma
40
41

80%