Options Pricing Models Options pricing models are a kind of gamble for some investors and a model-based method of investing for others. According to Hoadley Trading & Investment Tools (2011), the Black-Scholes model is most commonly used to determine the fair market value of the option in play. This model uses five key determinants of an option's price such as price, strike price, volatility, time left to expiration, and short-term interest rate. This model will allow you to quickly calculate option prices but unfortunately it is not too precise. This limitation is due to the inability to analyze a continuous stream of possibilities, instead the model can only calculate the option price at a certain point in time. You need to become familiar with the call option and put options of the option price to see how the transactions are made. . The call option is a contract between the buyer and the seller. The buyer “has the right, but not the obligation, to purchase from the seller an agreed quantity of a particular asset or financial instrument” (Option Call, 2011). The buyer must pay a small commission for the right to force the seller to sell at the buyer's choice. A put option is a contract between the buyer and seller “to exchange an asset, the underlying, for a specified amount of money, the strike, by a predetermined future date, expiration or maturity” (Put Option, 2011 ). Strike price is the fixed price at which the option holder can sell or buy. For example, if an A Put option has an exercise price of $40 per share, when the option is exercised the owner can sell 50 shares of Option B for $40 per share. The intrinsic value is calculated by taking the sum of the future income generated by the option and subtracting it from the pr...... middle of paper ......estopedia.com/terms/c/capm.aspEhrhardt, MC, and Brigham , EF (February 2010). Corporate finance: a targeted approach. Mason, Ohio. South-Western Cengage Learning.Hoadley Trading and Investing Tools (2011). Option pricing models and Greeks. Retrieved May 24, 2011, from http://www.hoadley.net/options/bs.htmMcClure, B. (2011). DCF analysis: calculation of the discount rate. Investipedia. Retrieved May 24, 2011, from http://www.investopedia.com/university/dcf/dcf3.aspPut option. (2011, May 22). In Wikipedia, the free encyclopedia. Retrieved at 02:44 on May 25, 2011, from http://en.wikipedia.org/w/index.php?title=Put_option&oldid=430306749Weighted Average Cost of Capital. (2011, April 2). In Wikipedia, the free encyclopedia. Retrieved at 00:28 on May 25, 2011 from http://en.wikipedia.org/w/index.php?title=Weighted_average_cost_of_capital&oldid=422017854