Does the cause for the current world financial chaos lie in the following equation?
That's what Nasim Taleb, author of The Black Swan: The Impact of the Highly Improbable, asserts about the above formula devised by economics Nobelists Robert Merton and Myron Scholes. As Taleb explained to NPR:
Their formula for evaluating stock options laid the ground work for risk-management in modern financial markets.
In its press release for the 1997 prize, the Nobel Committee wrote:
Robert C. Merton and Myron S. Scholes have, in collaboration with the late Fischer Black, developed a pioneering formula for the valuation of stock options. Their methodology has paved the way for economic valuations in many areas. It has also generated new types of financial instruments and facilitated more efficient risk management in society….
A new method to determine the value of derivatives stands out among the foremost contributions to economic sciences over the last 25 years….
Black, Merton and Scholes thus laid the foundation for the rapid growth of markets for derivatives in the last ten years. Their method has more general applicability, however, and has created new areas of research—inside as well as outside of financial economics. A similar method may be used to value insurance contracts and guarantees, or the flexibility of physical investment projects.
Taleb claims that since recent events have shown that Merton-Scholes formula doesn't work, the Nobel Committee should ask for the medals back.
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