The Partly Ignored and Forgotten History of Option Hedging
1688 De La Vega describes active option market and diffusely the put-call parity. See also Knoll (2004) that points out that put-call parity potentially can be traced back 2000 years.
1900 Bachelier (in his Dr thesis) come sup with first option formula (assuming normal distributed asset), and comes with a lot of mathematical insight in option pricing.
1902/1904 Higgins and Nelson: Market neutral delta hedging for at-the-money options well known. Put-call parity fully known.
1908 Vinzenz Bronzin publish book deriving several option pricing formulas. Bronzin based his risk-neutral option valuation on robust arbitrage principles such as the put-call parity and the link between the forward price and call and put options.
1910 Henry Deutsch describes put-call parity but in less detail than Higgins and Nelson.
1936 W. D. Gann describes market neutral delta hedging of at-the-money options, but in less details than Nelson (1904). Gann also indicates more dynamic hedging.
1956 Kruizenga re-discovered the put-call parity, but in less details than was already described by Higgins and Nelson.
1960 Freid describe empirical realtionships between warrants and the common stock price.
1961 Sprenkle publish option formula assuming log-normal distributed asset price.
1961 Reinach describes how market makers (converters) actively use put-call parity as well as how they hedge embedded options in convertible bonds with options.
1964 Boness describes an option formula basically identical to the Black-Scholes-Merton formula. However he do not argue for risk-neutral valuation based on continuous time delta hedging or the Capital Asset Pricing model.
1965 McKean gives closed form solution for American perpetual options, but not under theoretical risk-neutrality.
1967 Ed Thorp and Kausoff extend market neutral delta hedging to options with any strike (moneyness) or time to maturity.
1969 Thorp points to the direction of dynamic delta hedging, and how it will remove more risk than static delta hedging.
1969 Stoll publish a paper in Journal of Finance describing the Put-Call parity. However there was little nothing new, more was known already in the early 1900.
1970Arnold Bernhard & Co describe market neutral delta hedging of convertible bonds and warrants. Describe numerically how to approximate delta. Publish list of hedge ratio (delta) for large numbers of convertible bonds and warrants.
1973 Black-Scholes (1973) and Merton (1973) referring to Thorp and Kassouf extends delta hedging to continuous time delta hedging. It was a brilliant mathematical idea, but trading is not mathematics. Black, Scholes and Merton naturally knew that continuous time delta hedging not was possible, it was naturally only meant as an approximation. However for an approximation to work reasonably well it must be robust. The idea of continuous time delta hedging is far from robust. Even frequent delta-hedging do not remove enough risk to argue for risk neutral valuation, (see Derivatives Models on Models) for a summary on this topic.
Conclusion: Most robust hedging and pricing principles were basically known before Black, Scholes and Merton. The last step of taking market neutral delta hedging to continuous time delta hedging (or making the model consitent with CAPM) is the only step that not is of any practical use. Even frequent dynamic delta hedging cannot be used as an argument for risk-neutral valuation on its own. More on this in my book Derivatives Models on Models Chapter 2
Delta hedging removes a lot of risk, but not enough to argue for risk-neutral valuation (except in a fantasy world). Non of the traders/researchers describing delta hedging before 1973 ever claimed it could be used to remove all the risk all the time.
