Pricing variance and volatility swaps for Barndorff-Nielsen and Shephard process driven financial markets

Semere Habtemicael () and Indranil SenGupta
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Semere Habtemicael: Department of Applied Mathematics, Wentworth Institute of Technology, Boston, MA 02115, United States
Indranil SenGupta: Department of Mathematics, North Dakota State University, Fargo, ND 58108-6050, United States

International Journal of Financial Engineering (IJFE), 2016, vol. 03, issue 04, 1-35

Abstract: The objective of this paper is to study the arbitrage free pricing of variance and volatility swaps for Barndorff-Nielsen and Shephard 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 various approximate expressions for the pricing of volatility and variance swaps. We show that with the approximate formulas obtained from the Barndorff-Nielsen and Shephard model the error estimation in fitting the delivery price is much less than the existing models with comparable parameters. Pricing formulas proposed in this paper are simple to compute in real time and hence can be efficiently used in practical applications. Numerical results are provided in support of the accuracy of approximate formulas presented in this paper.

Keywords: Barndorff-Nielsen and Shephard model; variance swap; stochastic volatility; Ornstein–Uhlenbeck process; Lévy processes (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (16)

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DOI: 10.1142/S2424786316500274

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