Rough stochastic elasticity of variance and option pricing

Jiling Cao, Jeong-Hoon Kim, See-Woo Kim and Wenjun Zhang

Finance Research Letters, 2020, vol. 37, issue C

Abstract: This study is concerned with the elasticity of variance for risky assets. We show that the elasticity of variance for S&P500 exhibits short-range correlations. By using asymptotic and martingale methods, we obtain a semi-analytical expression for the option price in the two-scale regime where the constant elasticity of variance is perturbed by a smooth and bounded function of a rapid fractional Ornstein–Uhlenbeck process with Hurst exponent within (0,12). The associated implied volatility is presented and discussed. As a result, the scope of Markov stochastic elasticity of variance model is extended to a non-Markov case.

Keywords: Short range correlation; Stochastic elasticity of variance; Fractional Ornstein–Uhlenbeck process; Hurst exponent; Mean reversion (search for similar items in EconPapers)
JEL-codes: G12 G13 (search for similar items in EconPapers)
Date: 2020
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:finlet:v:37:y:2020:i:c:s1544612319308050

DOI: 10.1016/j.frl.2019.101381

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