CALIBRATED OPTION BOUNDS

Alan J. King (), Matti Koivu and Teemu Pennanen ()
Additional contact information
Alan J. King: IBM Research Division, Mathematical Sciences Department, Thomas J. Watson Research Center, PO Box 210, Yorktown Heights, NY 10598, USA
Matti Koivu: Risk Management Division, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany
Teemu Pennanen: Department of Business Technology, Helsinki School of Economics, PL 1210, 00101 Helsinki, Finland

International Journal of Theoretical and Applied Finance (IJTAF), 2005, vol. 08, issue 02, 141-159

Abstract: This paper proposes a numerical approach for computing bounds for the arbitrage-free prices of an option when some options are available for trading. Convex duality reveals a close relationship with recently proposed calibration techniques and implied trees. Our approach is intimately related to the uncertain volatility model of Avellaneda, Levy and Parás, but it is more general in that it is not based on any particular form of the asset price process and does not require the seller's price of an option to be a differentiable function of the cash-flows of the option. Numerical tests on S&P500 options demonstrate the accuracy and robustness of the proposed method.

Keywords: Options; pricing; calibration; convex optimization (search for similar items in EconPapers)
Date: 2005
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Citations: View citations in EconPapers (8)

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DOI: 10.1142/S0219024905002925

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