Journal of Optimization and Supply Chain Management

Journal of Optimization and Supply Chain Management

Analysis of Factors Influencing Pricing Errors of Option Contracts in the Derivatives Market of the Tehran Securities Exchange

Document Type : Research Paper

Authors
Danial Mohammadi
Emran Mohammadi
Mohammad Mahdi Vali-Siar
Nima Heidari
School of Industrial Engineering, Iran University of Science and Technology, Tehran, Iran
10.22034/ISS.2025.9078.1044
Abstract
Objective: The rapid expansion of options trading in recent years has increased the need for accurate option pricing models. Although the Black–Scholes–Merton (BSM) model is widely used for valuing option contracts, empirical evidence suggests that it produces pricing errors in real market conditions. This study aims to examine the impact of historical volatility, the in-the-money status of the underlying asset, and time to maturity on the pricing error of the Black–Scholes–Merton model.
Methods: This study uses panel data from option contracts traded over the period 2019–2023. The pricing error is defined as the deviation between theoretical prices obtained from the Black–Scholes–Merton model and observed market prices. Panel data regression analysis is conducted using Stata software to estimate the effects of the selected variables on the model’s pricing error. In addition, the Root Mean Square Error (RMSE) is calculated to assess the overall pricing accuracy of the model.
Results: The empirical results show that historical volatility, the in-the-money status of options, and time to maturity all have a positive and statistically significant effect on the pricing error of the Black–Scholes–Merton model. Higher levels of these variables are associated with larger discrepancies between theoretical and market prices. The calculated RMSE of 0.55 indicates a notable difference between model-based estimates and actual option prices.
Conclusion: The findings indicate that the Black–Scholes–Merton model exhibits increasing pricing inaccuracies under real market conditions, particularly for options with higher volatility, in-the-money positions, and longer maturities. These results highlight the limitations of the BSM framework and suggest the need for improved or alternative pricing models.
Keywords
option contracts
volatility
model error
Black-Scholes-Merton Model
Tehran securities exchange
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Journal of Optimization and Supply Chain Management
Volume 2, Issue 2
Spring 2025
Pages 125-136