Do knowledgeable option traders:
1 use the put-call parity as an arbitrage constrain + to hedge options with options even when no arbitrage opportunity: YES
2 hedge options with options: YES
3 take into account the supply and demand in the options themselves for pricing and hedging options: YES
4 use initial market neutral delta hedging to remove some risk: YES
5 use discrete dynamic delta hedging to remove some risk: YES
6 construct their option portfolios in such a way to protect them from blowing up because they know delta hedging to remove even close to most risk some times fails big time. For example when we have jumps, and we have jumps. YES
7 use close to continuous dynamic delta hedging to remove close to all risk all the time so they can close their eyes and relay on risk-neutrality. NO
8 completely ignore supply and demand for options when pricing and hedging options because thy can replicate any option close to perfectly using dynamic replication with the underlying asset. NO
9. Where point 1 to 6 described and used by knowledgeable option traders before 1973: YES
10. Did any of the authors describing delta hedging before 1973 claim you could remove all the risk all the time using delta hedging : NO
11. Did many of the option formulas published before 1973 relay and evolve around the principles described in 1 to 6 but not on 7 and 8: YES
12. Do knowledgeable option traders also today relay on 1 to 6 and not on 7 and 8: YES
Do you still think knowledgeable option traders use the Black-Scholes-Merton formula (continuous hedging argument) for option pricing and hedging?
You do! Congratulations you just passed the test showing you believe in Santa Claus!
I used to do ;-)