PRICING COVARIANCE SWAPS FOR BARNDORFF–NIELSEN AND SHEPHARD PROCESS DRIVEN FINANCIAL MARKETS

Semere Habtemicael () and Indranil Sengupta
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Semere Habtemicael: Ragon Institute of MGH, MIT and Harvard, Cambridge, MA 02139-3583, USA
Indranil Sengupta: Department of Mathematics, North Dakota State University, Fargo, ND 58108-6050, USA

Annals of Financial Economics (AFE), 2016, vol. 11, issue 03, 1-32

Abstract: The objective of this paper is to study the arbitrage free pricing of the covariance swap for Barndorff–Nielsen and Shephard (BN–S) type Lévy process driven financial markets. One of the major challenges in arbitrage free pricing of swap is to obtain an accurate pricing expression which can be used with good computational accuracy. In this paper, we obtain analytic expressions for the pricing of the covariance swap. We show that with the analytic expressions obtained from the BN–S model, the error estimation in fitting the delivery price is much less than the existing models with comparable parameters. The models and pricing formulas proposed in this paper are computable in real time and hence can be efficiently used in practical applications.

Keywords: Swap; cumulants; stochastic volatility; Ornstein–Uhlenbeck process; Lévy processes (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (20)

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DOI: 10.1142/S2010495216500123

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