When estimating the value of an option on a traded stock, the expected return on the stock

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When estimating the value of an option on a traded stock, the expected return on the stock is irrelevant—as proven in option pricing theory. For the valuation of an option on an asset that is not traded, such as in the numerical example introduced in Exhibit 32.8, the expected cash flow returns are required. Discuss how that is still consistent with option pricing theory.

Expected Return
The expected return is the profit or loss an investor anticipates on an investment that has known or anticipated rates of return (RoR). It is calculated by multiplying potential outcomes by the chances of them occurring and then totaling these...
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Valuation Measuring and managing the values of companies

ISBN: ?978-0470424704

5th edition

Authors: Mckinsey, Tim Koller, Marc Goedhart, David Wessel

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