Black-Scholes Model

Black-Scholes is a way of modeling stock prices.  The Black-Scholes model focuses on the current stock price and the volatility of the stock price to determine the likelihood of future price moves.  This type of analysis is most often used to accurately price stock options based on the price of the underlying stock.

This type of analysis differs from traditional technical analysis because it does not select a direction for a move.  Linear regression and Gann angles, for example, assume that a stock price will move in a straight line.  A longer, straighter line means a stronger trend, so we can confidently predict that the stock price will continue to rise or fall at the same rate.  Black-Scholes says that a stock chart with a price rising or falling in a straight line is very unlikely.  A longer, straighter line is even less likely.

Bollinger Bands come closer to the Black-Scholes model.  The standard deviation formula used in Bollinger Bands is similar to the volatility formula used by the Black-Scholes model.  For that reason, neither one expects a sharp rise or drop in price to continue forever.  If you see a stock chart with a pattern like that, and you add Bollinger Bands to that stock chart, then you will see the bands get wider and wider over time.  The Bollinger Bands, like the Black-Scholes model, are saying that a stock like that becomes harder and harder to predict.

Black-Scholes differs, however, from Bollinger Bands, because Bollinger Bands expect an extreme move to be followed by a pullback.  The center of the Bollinger Bands is set by a moving average, under the assumption that the price is likely to return toward that mean.  Black-Scholes always centers its predictions around the current price, as in the efficient market theorem.

The Black-Scholes model is most obvious in our various running and consolidation alerts.  These alerts tell the user when a stock chart is unusual because the current stock price is far from the prediction of the Black-Scholes model.  We also use this model internally in many other places, allowing us to properly interpret the volatility of a stock.

Alert Types

We offer the following alert types which are related to this topic.  Click on the icon for a detailed description of the alert, or click on the example link for additional samples of each type of alert.