Essentially, option pricing theory provides an evaluation of an option's fair value, which traders incorporate into their strategies. Models used to price options account for variables such as current market price, strike price, volatility, interest rate, and time to expiration to theoretically value an option.

What is an option model?

Option Pricing Models are mathematical models that use certain variables to calculate the theoretical value of an optionCall OptionA call option, commonly referred to as a "call," is a form of a derivatives contract that gives the call option buyer the right, but not the obligation, to buy a stock or other financial ...

What is the best option pricing model?

The Black-Scholes model is perhaps the best-known options pricing method. The model's formula is derived by multiplying the stock price by the cumulative standard normal probability distribution function.