EconPapers    
Economics at your fingertips  
 

Option Pricing Model with Stochastic Implied Volatility

Tianxiang Liu and Desheng Wu
Additional contact information
Tianxiang Liu: School of Economics and Management, University of Chinese Academy of Sciences, No.19A Yuquan Road, Beijing 100049, China
Desheng Wu: Risklab, University of Toronto, 40 St. George St. BA7262, Toronto ON M5S2E4, Canada, School of Economics and Management, University of Chinese Academy of Sciences, No.19A Yuquan Road, Beijing 100049, China

Asian Economic and Financial Review, 2018, vol. 8, issue 7, 925-946

Abstract: Although option pricing theory has made great progress over the past thirty years, there are still large gaps between theory and practice. Practitioners still use the Black-Sholes-Merton model and implied volatility surfaces to manage their positions. We develop a new method for pricing options by describing the dynamics of Black-Scholes-Merton implied volatility rather than instantaneous volatility. Our model nests models from previous studies in this field, and generates volatility surfaces guaranteed to be either ?smile? or ?smirk?. We evaluate our model using data from S&P 500 index options and discuss parameter selection. Our model outperforms not only previous implied volatility models, but also traditional option pricing theory models (i.e. Variance Gamma model, Hull-White model and Heston model).

Keywords: Option; Implied volatility surface; Stochastic implied volatility Model; No-arbitrage condition (search for similar items in EconPapers)
JEL-codes: G12 (search for similar items in EconPapers)
Date: 2018
References: View references in EconPapers View complete reference list from CitEc
Citations: Track citations by RSS feed

Downloads: (external link)
http://www.aessweb.com/download.php?id=4220 (application/pdf)
http://www.aessweb.com/journals/5002/July2018 (text/html)

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:asi:aeafrj:2018:p:925-946

Access Statistics for this article

Asian Economic and Financial Review is currently edited by Dr. Qazi Muhammad Adnan Hye

More articles in Asian Economic and Financial Review from Asian Economic and Social Society Sadeeq Block, Near Fawara Chowk, Abbasia Town, Rahim Yar Khan - 64200, Punjab, Pakistan.
Bibliographic data for series maintained by Chan Hoi Yan ().

 
Page updated 2019-05-02
Handle: RePEc:asi:aeafrj:2018:p:925-946