Pre-Black-Scholes option theory always hinged on unobservable expected returns.

Evidence

Herbert Simon, whose “behavioral” criticism of financial economics was discussed in chapter 2, would no doubt have felt that option theory in the 1960s was a perfect manifestation of his point. The theoretical formulas for the values of options and warrants always involved unobservable parameters, in particular the parameter on whose unobservability Simon had focused, a stock’s expected rate of return. Furthermore, attempts to work backward from observed option prices to estimate expected stock returns and other underlying parameters had proved frustrating: no entirely convincing estimates had been generated. — Donald MacKenzie, An Engine, Not a Camera, 541

Categorization

• XREF: connects to: The Black-Scholes equation excludes expected returns and risk aversion entirely — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 610; Pre-Black-Scholes option valuation needed investor risk attitude as an unobservable input — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 536

Broader Connections

• The Black-Scholes equation excludes expected returns and risk aversion entirely #expands (0.95) — Donald MacKenzie, An Engine, Not a Camera, 610
• Pre-Black-Scholes option valuation needed investor risk attitude as an unobservable input #corroborates (0.92) — Donald MacKenzie, An Engine, Not a Camera, 536