A MOMENT MATCHING APPROACH TO THE VALUATION OF A VOLUME WEIGHTED AVERAGE PRICE OPTION

Antony William Stace ()
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Antony William Stace: Department of Mathematics, University of Queensland, Brisbane, Queensland 4072, Australia

International Journal of Theoretical and Applied Finance (IJTAF), 2007, vol. 10, issue 01, 95-110

Abstract: In this paper we develop a method to find the price of several options whose payoff depends on a volume weighted average price (VWAP). Fixed and floating strike VWAP, together with digital VWAP contracts are considered. Throughout we assume that the stock follows a geometric Brownian motion and the rate of trades evolves as a mean reverting process. It is assumed that the VWAP at the final time has a lognormal distribution. The parameters of the approximating lognormal distribution are obtained by matching the first two moments of the volume weighted average price with a lognormal process. A price is then obtained for the fixed strike and digital options when the market price of risk is a constant. We concentrate on the price for calls, prices for puts can be obtained in an analogous manner.

Keywords: Option pricing; moment matching; volume weighted average price (search for similar items in EconPapers)
Date: 2007
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Citations: View citations in EconPapers (3)

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DOI: 10.1142/S0219024907004068

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