Variance and volatility swaps valuations with the stochastic liquidity risk

De-xuan Xu, Ben-zhang Yang, Jian-hao Kang and Nan-jing Huang

Physica A: Statistical Mechanics and its Applications, 2021, vol. 566, issue C

Abstract: This paper focuses on the variance and volatility swaps pricing in the framework of a liquidity-adjusted underlying assets model. The pricing formulas of discretely-sampled variance and volatility swaps are obtained under the stochastic liquidity risk by deriving the characteristic function and solving the governing PDEs. The limiting properties for the pricing formulas of discretely-sampled variance and volatility swaps, namely the pricing formulas of continuous sampling, are also given. Finally, to illustrate the performance of the pricing formulas, some detailed numerical experiments are provided, including the comparisons with Monte Carlo (MC) simulations results, the effects of stochastic liquidity and parameters variation on derivative prices as well as the empirical studies from real-market data.

Keywords: Variance swaps; Volatility swaps; Stochastic liquidity risk; Characteristic function; Limiting properties (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (5)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:phsmap:v:566:y:2021:i:c:s0378437120309778

DOI: 10.1016/j.physa.2020.125679

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