World Economy v. Poker??? Zero-Sum????

[hedgeyerbets]

It explains why options and other derivatives earn the risk free rate in theory... which you called some guy drunk for stating.

[Sniper]

[ QUOTE ]
It explains why options and other derivatives earn the risk free rate in theory... which you called some guy drunk for stating.

[/ QUOTE ]

I very humbly suggest you read the article in the link, again!!!

[hedgeyerbets]

the link does not do a good job of explaining the expected theoretical return of options. probably should have read it before linking it [img]/images/graemlins/wink.gif[/img] I'll post a reply tomorrow if I remember to bring my hull book home from work [img]/images/graemlins/wink.gif[/img] Too lazy to derive the answer.

[hedgeyerbets]

Ah, you are correct. Must lower caffein consumption and stop misreading thing. A perfectly delta-hedged option contract has an expected return of risk free rate - an option contract does not.

[crazy canuck]

Correct me if 'm wrong, but I think an option has an expected return that equals to the risk free interest rate in the Black-Scholes world, becasue everything has to be discounted. But even if it's true I have no idea if this applies in the real world.

PS: I haven't been drinking when I made the original post, but I've been drinking now. The restaurants have some good wine selection here in Montreal. [img]/images/graemlins/smile.gif[/img]

[crazy canuck]

Never mind. I think becasue the option is already discounted, if you are long it has an expected return equal to the interest rate, but the person on the other side of the trade loses an expected amount equal to the interest rate. So yes it is zero sum (without transaction costs).

I was also thinking of the delta neutral portfolio.

[Sniper]

Just for the record... options are risky... don't want anyone thinking they can buy options and get a risk free return!! [img]/images/graemlins/smile.gif[/img]

There are also option strategies that mitigate some of the risk.