Hi

@bpdulog I can illustrate. Assume that while Rf = 3%, Term = 1 year, σ = 40%, K = 100: When the Stock (S) = $110, the delta, N(d1) = 0.70 and then the

**call price is $23.67**
Imagine the stock price drops by $10.00 to $100.00

- If we just use delta (the linear approximation), we estimate a drop in the call price of $10.00 * 0.70 = $7.00; i.e, from $23.67 to 16.67
- However, the actual drop in the call price is only $6.54, from $23.67 to $17.14 (if i had more time, I would paste the picture: visualize the tangent line to the convex call/stock price curve)

Your quote is correct. Confusion can arise if we aren't careful about the change in option price versus the VaR which is the loss. In my example, the linear approximation

**underestimates** the true

**value (price)** of the option because it predicts a new price of $16.67 versus the true (i.e., full revaluation) price of $17.14; the difference due to convexity. At the same time, the linear approximation

**overestimates** the

**VaR** because it predicts a loss of $7.00 versus the true loss of $6.54. I hope that helps. Good luck tomorrow!!

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