What Is the Risk of Using a Flat Volatility Assumption (Like in Black-Scholes) for Pricing Options?

The risk is significant mispricing of out-of-the-money (OTM) and deep in-the-money (ITM) options. A flat volatility assumption ignores the volatility skew, systematically underpricing OTM puts (which are highly demanded for downside protection) and overpricing OTM calls.

This leads to poor hedging and missed arbitrage opportunities.