What is beneath the surface? Option pricing with multifrequency latent states

Laurent Calvet, Marcus Fearnley, Adlai Fisher and Markus Leippold ()

Journal of Econometrics, 2015, vol. 187, issue 2, 498-511

Abstract: We introduce a tractable class of multi-factor price processes with regime-switching stochastic volatility and jumps, which flexibly adapt to changing market conditions and permit fast option pricing. A small set of structural parameters, whose dimension is invariant to the number of factors, fully specifies the joint dynamics of the underlying asset and options implied volatility surface. We develop a novel particle filter for efficiently extracting the latent state from joint S&P 500 returns and options data. The model outperforms standard benchmarks in- and out-of-sample, and remains robust even in the wake of seemingly large discontinuities such as the recent financial crisis.

Keywords: Markov-switching multifractal; Particle filter; Regime-switching; Stochastic volatility; Jump-risk premium; Option pricing (search for similar items in EconPapers)
JEL-codes: C51 G12 G13 (search for similar items in EconPapers)
Date: 2015
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (6)

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Working Paper: What's Beneath the Surface? Option Pricing with Multifrequency Latent States (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:econom:v:187:y:2015:i:2:p:498-511

DOI: 10.1016/j.jeconom.2015.02.034

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