1 - The Effectiveness of Option Pricing Models During Financial Crises

Abstract

This chapter compares the effectiveness of the Black–Scholes option pricing model against a non-parametric alternative during periods of stable economic conditions and periods of financial crises. The results for 1987 and 2008 suggest that the more complicated non-parametric models are more accurate during stable markets than the Black–Scholes model. However, the Black–Scholes model outperforms the non-parametric models during financial crises. These results suggest that a regime switch from stable economic conditions to periods of excessively volatile conditions impedes the estimation and the pricing ability of non-parametric models.