Price Limits, the Nature of Equity Options, and the Risk-Neutral Valuation
Jin Yoo
This paper reveals two properties of equity options in a market with price limits on their underlying assets. The first one is that an eq ºñ ty option in such a market is equivalent to a portfÀÌ io of a risk-free zero-coupon bond and equity options without price limits. The second one is that an equi ty option with price limits is path-dependent. This paper also discusses whether it is legitimate to use the risk-neutral valuation to price such an option. Finally this paper exemplifies a simplified numerical approach to identify the payoä§distribution of such an option, incorporating its path-dependency.
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