Using the Black-Scholes formula allowed traders to buy or sell an option, create a replicating portfolio using a combination of stocks, interest rates & time, and arbitrage between the two for profit. At the heart of the Black-Scholes equation was the idea that a basket of securities called the “ replicating portfolio ” could be created with the same payoffs as an options contract. Fischer Black & Myron Scholes, two researchers at the University of Chicago, discovered a mathematical formula to express the risk/reward/price relationship that could be used to price options. Simple examples like this help explain what poker players & option traders do on a daily basis - they take inputs from their respective environments to process the relationship between expected outcomes, risk, reward and price, betting when the odds are in their favor and waiting on the sidelines when they don’t have an advantage.Īround the time of CBOE’s launch, another innovation made headlines in the options market. Now that I’ve introduced price as a new variable, your choice should change to #1 ($100,000 expected value for only $50,000 is way better than a $125,000 expected value for $130,000). Now suppose I put a price on these odds : With this level of information you would correctly claim the choice with the better expected value is #2 ($500,000 * 25% = $125,000 is greater than $1,000,000 * 10% = $100,000). In poker and in options trading, the player who can quickly form a range of potential future outcomes & accurately value exposure to those outcomes will win.įor example, suppose I let you choose between two sets of potential payoffs: In its simplest form, both pursuits are about probability & risk management. Yass saw a direct overlap between options and poker, and for good reason. Markets were still figuring out how to properly value & trade these instruments, and even the industry’s top firms hadn’t mastered them quite yet. In 1973 the CBOE launched the first US exchange-listed options contract, opening up a complex new trading frontier. A new market was forming on Wall Street with vast potential for gamblers like them - options. It was around this time that Yass gave serious thought to the idea that the group’s success could expand beyond the poker table. After college the group spent a year in Las Vegas, winning enough at the casinos to cover their bills and more. The six students used advanced game theory & statistics to find a consistent edge, and used that edge to make millions of dollars at the betting table. The group wouldn’t just skip class to gamble - being mostly science & math majors, they took an obsessive, analytical approach to the game. Six classmates - Jeffrey Yass, Steve Bloom, Eric Brooks, Arthur Dantchik, Andrew Frost and Joel Greenberg - became friends through their shared skill & interest in poker and horse racing. The idea that became Susquehanna was formed in the mid 1970s at SUNY Binghamton, a New York college near the Pennsylvania border.
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