How to make the Black-Sholes model work with a company that pays dividends? | TigerDroppings.com

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ClydeFrog
Oklahoma Fan
Kansas
Member since Jul 2012
2985 posts

How to make the Black-Sholes model work with a company that pays dividends?


I know the model assumes that no dividends are paid but I have heard that it is not too complicated to work with a company that does pay dividends if some changes are made. Does anyone know how to do this?






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Doc Fenton
Yale Fan
Member since Feb 2007
50772 posts

re: How to make the Black-Sholes model work with a company that pays dividends?


The no dividends assumption is actually not one of the fundamental assumptions of the BS model.

You have to decide whether or not you want to model the dividends continuously or discretely. This is discussed in the Wikipedia entry for Black Scholes under "Extensions of the model." Like it says, using a continuously compounded dividend rate is typically better suited for modeling an investment basket having a large number of stocks, whereas if you have a single stock with known payout dates, then you'll probably want to factor in each dividend payment discretely.






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