Financial Valuation Models

One of the critical components of financial research, due to its use in almost every aspect on financial analysis, is estimation of the market value of the financial asset/liability. It is commonly known as financial valuation and the efficiency of using these models determines the quality of research done by the financial researchers.


Which models are widely used ?

The most widely used models are the relative value models, absolute value models and option pricing models. The relative value model is widely used by the hedge fund managers to quantify the attractiveness measured of one financial instrument relative to another. Further, some Hedge funds have mastered strategies that take advantage of the difference in pricing between two related and correlated securities. Sector Researchers have taken relative pricing further to compare various sectors such as telecommunication, mining, etc.

Black-Scholes Model:

The modern pricing are some of the most mathematically complex applied areas of finance and mathematics. Financial analysts have reached the point where they are able to calculate, with alarming accuracy, the value of a stock option. The most widely used models for pricing are the Capital Asset Pricing Model, the Fama-French three-factor model and Black-Scholes pricing model. The Black-Scholes model is so popular that most of the models and techniques employed by today's analysts are rooted in this model. As the value of an option varies only with the stock price and time to expiry it supports the possibility of a hedged position consisting of a long position in the stock and a short position in calls of the same stock whose value will not depend on the price of the stock.