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Review of Derivatives Research
Erschienen in: Review of Derivatives Research 3/2016

01.10.2016

Stochastic covariance and dimension reduction in the pricing of basket options

verfasst von: Marcos Escobar, Daniel Krause, Rudi Zagst

Erschienen in: Review of Derivatives Research | Ausgabe 3/2016

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Abstract

This paper presents a tailor-made method for dimension reduction aimed at approximating the price of basket options in the context of stochastic volatility and stochastic correlation. The methodology is built on a modification to the Principal Component Stochastic Volatility (PCSV) model, a stochastic covariance model that accounts for most stylized facts in prices. The method to reduce dimension is first derived theoretically. Afterwards the results are applied to a multivariate lognormal context as a special case of the PCSV model. Finally empirical results for the application of the method to the general PCSV model are illustrated.
Nächster Artikel On exact pricing of FX options in multivariate time-changed Lévy models

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Fußnoten
1
The eigenvalues can not be strictly zero otherwise some stocks would be redundant leading to arbitrage opportunities.
 
2
A different measure should be proposed if targeting the conditional distribution rather than the stationary, unconditional distribution.
 
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Metadaten
Titel
Stochastic covariance and dimension reduction in the pricing of basket options
verfasst von
Marcos Escobar
Daniel Krause
Rudi Zagst
Publikationsdatum
01.10.2016
Verlag
Springer US
Erschienen in
Review of Derivatives Research / Ausgabe 3/2016
Print ISSN: 1380-6645
Elektronische ISSN: 1573-7144
DOI
https://doi.org/10.1007/s11147-016-9119-x