Market prices converged toward Black-Scholes values within a few years of the CBOE’s founding

Evidence

At first, the correspondence between the Black-Scholes-Merton model and patterns of prices on the Chicago Board Options Exchange was fairly poor. Soon, however, it began to improve. The most thorough tests of fit were conducted by Mark Rubinstein (1985), using a subset of a huge data base of nearly all Chicago Board Options Exchange price quotations and transactions between August 1976 and August 1978. — Donald MacKenzie, An Engine, Not a Camera, 735 (#epitomizes, via linked claim)

The first day that the Exchange opened … I looked at the prices of calls and I looked at the model and the calls were maybe 30–40% overvalued! And I called Myron [Scholes] in a panic and said, “Your model is a joke,” and he said, “Give me the prices,” and he went back and he huddled with Merton and he came back. He says, “The model’s right.” And I ran down the hall … and I said, “Give me more money and we’re going to have a killing ground here.” — Donald MacKenzie & Yuval Millo, Constructing a Market, Performing Theory, 102 (#expands, via linked claim)

Option pricing is the aspect of finance theory whose performativity has been examined most closely in the previous chapters. The fit between the BlackScholes-Merton model and empirical patterns of option prices was originally only approximate, but it improved rapidly after the model was published and adopted by market practitioners. There is no way of being certain that the improved fit was due to the practical adoption of the model: the year of its publication also saw the opening in Chicago of the first modern options exchange, and the development of organized options trading would have had an effect on patterns of prices quite independent of the model. — Donald MacKenzie, An Engine, Not a Camera, 1153 (#qualifies, via linked claim)

Categorization

• XREF: connects to: Option market prices initially diverged from the Black-Scholes model but converged — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 735; Early CBOE options traded at prices wildly above Black-Scholes values — Donald MacKenzie & Yuval Millo, Constructing a Market, Performing Theory, 102; Organized options trading alone could explain post-model price convergence to Black-Scholes — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 1153 (+2 more)

Related

• Option market prices initially diverged from the Black-Scholes model but converged (similarity 0.95)
• Organized options trading alone could explain post-model price convergence to Black-Scholes (similarity 0.94)
• Early CBOE options traded at prices wildly above Black-Scholes values (similarity 0.91)
• Black-Scholes-Merton pricing fit observed options data only approximately at launch. (similarity 0.90)
• Black-Scholes-Merton theory shaped exchange fortunes before markets changed to match it. (similarity 0.89)
• Black-Scholes fit option prices well for eleven years, then stopped after 1987 (similarity 0.88)
• The Black-Scholes model gained market traction slowly, not through instant self-fulfilling prophecy. (similarity 0.88)
• Option pricing converged on economic models through traders copying other users. (similarity 0.88)
• Option pricing theory did not describe markets but remade them in its own image (similarity 0.87)
• Black-Scholes legitimized options despite fitting prices only approximately (similarity 0.87)
• Black-Scholes price deviations fell from 2 percent to under 1 percent by 1986 (similarity 0.86)
• The Black-Scholes theory reframed options trading as legitimate efficient pricing rather than gambling. (similarity 0.86)
• The market changed to fit Black-Scholes rather than the reverse (similarity 0.85)
• The Black-Scholes methodology reshaped economists’ and regulators’ thinking beyond derivatives. (similarity 0.85)
• Fairer option pricing let 1970s exchanges prosper where predecessors failed (similarity 0.84)

Broader Connections

• Option market prices initially diverged from the Black-Scholes model but converged #epitomizes (0.95) — Donald MacKenzie, An Engine, Not a Camera, 735
• Early CBOE options traded at prices wildly above Black-Scholes values #expands (0.90) — Donald MacKenzie & Yuval Millo, Constructing a Market, Performing Theory, 102
• Organized options trading alone could explain post-model price convergence to Black-Scholes #qualifies (0.80) — Donald MacKenzie, An Engine, Not a Camera, 1153
• Economic theory succeeded in derivatives markets partly by making markets conform to it #expands (0.70) — Donald MacKenzie & Yuval Millo, Constructing a Market, Performing Theory, 9