Option pricing under GARCH models with Hansen's skewed-t distributed innovations

Yanxin Liu, Johnny Siu-Hang Li and Andrew Cheuk-Yin Ng

The North American Journal of Economics and Finance, 2015, vol. 31, issue C, 108-125

Abstract: Recently, there has been a wave of work on option pricing under GARCH-type models with non-normal innovations. However, many of the existing valuation results rely on the existence of the moment generating function of the innovations’ distribution, thereby ruling out the use of heavy-tailed distributions such as Student's t and its variants, which may better capture the excess kurtosis in historical asset returns. In this paper, we consider option pricing under GARCH models with Hansen's skewed-t distributed innovations. To overcome the limitations of the existing valuation results, we apply risk-neutralization to the empirical distribution of the simulated sample paths rather than the innovations’ parametric distribution. We illustrate our proposed method by pricing options written on the S&P 500 index.

Keywords: Hansen's skewed-t distribution; Canonical valuation; Maximum entropy measure (search for similar items in EconPapers)
Date: 2015
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Citations: View citations in EconPapers (10)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecofin:v:31:y:2015:i:c:p:108-125

DOI: 10.1016/j.najef.2014.10.007

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