Albert Kim – Turning Finance into Science Risk Management & the Black- Scholes Options Pricing Model (Article)

Albert Kim – Turning Finance into Science Risk Management & the Black- Scholes Options Pricing Model (Article)

In recent years, a new discipline called financial engineering has emergedin order to attempt to understand finance using a scientific approach.Mathematicians, physicists and traders work together in this discipline in orderto incorporate the use of advanced mathematics with everyday finance (Stix,1998).Although financial engineering deals with many aspects of finance, themain application of this discipline is risk management within the stock market.

Regardless of what type of stock market transaction one performs, risk isalways present. However, it is the management of this risk that is studied bythese “financial engineers”. People need a fast and reliable way to calculate andcontrol the risk involved in all their stock trading.

This is where the Black- Scholes Option Pricing Model comes in. Thisideas behind this formula, created by Prof. Robert C. Merton, Prof. Myron S.Scholes and the late Fisher Black, has been described by one economist as “themost successful theory not only in finance but in all of economic