Option pricing models such as Black-Scholes look complicated, but they rely on a short list of inputs. Knowing the direction each one pushes the price is more useful than memorising the formula.
The inputs
- Underlying price: up helps calls, hurts puts.
- Strike price: higher strikes make calls cheaper and puts more expensive.
- Time to expiry: more time means more value for both.
- Implied volatility: higher IV raises both call and put prices.
- Interest rates: higher rates slightly raise calls and lower puts.
- Dividends: expected dividends lower calls and raise puts.
Only one input is unknown
Price, strike, time, rates and dividends are all known or close to it. Volatility is the only input the market has to estimate. That is why traders quote options in terms of implied volatility, and why IV is the real battleground.
This article is for education only and is not financial advice. Options involve risk and are not suitable for every investor.