Understanding option pricing and the factors affecting it

Nand Kumar, Department of Humanities (DTU) Ankita Aggarwal, Delhi School of Management (DTU) Apurv Bharadwaj, Delhi School of Management (DTU) Hina Jhamb, Delhi School of Management (DTU) Susan Thomas, Delhi School of Management (DTU)

Delhi Technological University, Shahbad-Daulatpur, Bawana, New Delhi

Abstract This paper attempts to answer the fundamental question of valuation of options. With the ban on the Badla system in 2001, futures and options trading has entered the Indian market in a big way. Options give the holder the right to sell or buy financial assets but he is not obligated to do so. They are usually used to hedge against certain financial risks, weather conditions, and natural disasters such as catastrophe events. Hence, while valuable, the answer to the question of valuation of options remains ambiguous. The price of an option depends upon factors such as current stock price, strike price, time to expiration, volatility of the stock price, risk-free interest rate and dividends expected. We aim to determine the significance of such factors in the pricing of options by using regression analysis. The results obtained will facilitate the estimation of pricing of options, thereby helping to reduce volatility to a certain extent.

Keywords- Options valuation, regression analysis