EFFICIENT PRICING AND RELIABLE CALIBRATION IN THE HESTON MODEL

Sergei Levendorskiĭ ()
Additional contact information
Sergei Levendorskiĭ: Department of Mathematics, University of Leicester, University Road, Leicester, LE1 7RH, UK

International Journal of Theoretical and Applied Finance (IJTAF), 2012, vol. 15, issue 07, 1-44

Abstract: We suggest a general scheme for improvement of FT-pricing formulas for European options and give efficient recommendations for the choice of the parameters of the numerical scheme, which allow for very accurate and fast calculations. The efficiency of the method stems from the properties of functions analytical in a strip, which were introduced to finance by Feng and Linetsky (2008). We demonstrate that an indiscriminate choice of parameters of a numerical scheme leads to an inaccurate pricing and calibration. As applications, we consider the Heston model and its generalization. For many parameter sets documented in empirical studies of financial markets, relative accuracy better than 0.01% can be achieved by summation of less than 10-20 terms even in the situations in which the standard approach requires more than 200. In some cases, the one-term formula produces an error of several percent, and the summation of two terms — less than 0.5%. Typically, 10 terms and fewer suffice to achieve the error tolerance of several percent and smaller.

Keywords: Option pricing; Heston model; calibration; Fourier transform (search for similar items in EconPapers)
Date: 2012
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (17)

Downloads: (external link)
http://www.worldscientific.com/doi/abs/10.1142/S0219024912500501
Access to full text is restricted to subscribers

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wsi:ijtafx:v:15:y:2012:i:07:n:s0219024912500501

Ordering information: This journal article can be ordered from

DOI: 10.1142/S0219024912500501

Access Statistics for this article

International Journal of Theoretical and Applied Finance (IJTAF) is currently edited by L P Hughston

More articles in International Journal of Theoretical and Applied Finance (IJTAF) from World Scientific Publishing Co. Pte. Ltd.
Bibliographic data for series maintained by Tai Tone Lim ().