I'm curious to see how others would approach this question:
There are 2 products. The first has 100 possible outcomes with a 1/100 chance of paying out $100, all other outcomes pay $0. The second product has 1,000,000 possibile outcomes with a 1/1,000,000 chance of paying out $1,000,000, all other outcomes also paying $0. As a trader on the sell side, how would you price both these products for a client?
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Is this not just expected value? 1 dollar a piece because the first is (1/100) * 100 and the second (1/1,000,000)*1,000,000. Maybe $1.02 and make 2%
Its not just about EV in this case. It is about price volatility, firm capital reserves, market sentiment, market maturity, market liquidity and market type.
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