Workbook for Volume 1 - Part IV - Section #27: Foundational Papers from the 20th Century, Post-World War II (9 of 15) – Merton, Treynor & Black, Black & Scholes
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For returning readers and subscribers: This post introduces a Revised Version for Volume 1 - Part IV - Section #27: Foundational Papers from the 20th Century, Post-World War II (9 of 15) – Merton, Treynor & Black, Black & Scholes
Summary:
Volume 1 - Part IV - Section #27: Foundational Papers from the 20th Century, Post-World War II (9 of 15) – Merton, Treynor & Black, Black & Scholes - Financial Economics turned Analogies into “Theories, Rules & Laws” to simplify the calculations of security selection models such as the Treynor-Black model. These models provide the foundation for pricing derivative instruments. The Black/Scholes formula for the dynamic hedging of risky options into riskless instruments, provides an example to illustrate the unexpected consequences that come from the “Axioms, Assumptions & Hypotheses” behind the Analogies, “Theories, Rules & Laws”. This comparison of “Large World” hedging heuristics vs. “Small Worlds” hedging models illustrates the case-specific limitations of models based on combinations of “Axioms, Assumptions & Hypotheses”, Analogies, “Theories, Rules & Laws”, and the improvements provided by heuristics.
Developing…
”CTRI by Francois Gadenne” writes a business book in three volumes, published serially on Substack for public peer-review. The book connects the dots of life-enhancing practices for the next generation, free of controlling algorithms, based on the lifetime experience of a retirement age entrepreneur, & continuously updated with insights from reading Wealth, Health, & Statistics research papers on behalf of large companies as the co-founder of CTRI.