2012 AM 9B
anyone could explain why delta will overestimate the price effect of increase in the underlying? i understand it underestimate the price effect of decrease in the underlying… (from payoff chart)
many thanks!
It’s the same logic and can be understood by payoff chart. Option premium on Y-axis and underlying price on X-axis. The graph will be convex in nature (assuming its a put option) and Delta at any point will be the slope of this curve. Now if the price of the underlying will go up, put option will decrease in value, but delta being the slope of the curve, will overestimate the decline in value more than the convex curve. You can clearly see it if you draw the graph.