Option pricing on foreign exchange in a Markov-modulated, incomplete-market economy

Yu-Min Lian, Jun-Home Chen and Szu-Lang Liao

Finance Research Letters, 2016, vol. 16, issue C, 208-219

Abstract: In this study, we investigate the currency option pricing in a Markov-modulated, incomplete-market economy. Specifically, the dynamics of the spot foreign exchange rate and the domestic/foreign instantaneous forward interest rates are, respectively, governed by a two-factor Markov-modulated stochastic volatility model with jumps and a Markov-modulated Heath–Jarrow–Morton model. The analytical expressions are obtainable using the random Esscher transform. Numerical examples are also given.

Keywords: Currency option; Two-factor Markov-modulated stochastic volatility model with jumps; Markov-modulated Heath–Jarrow–Morton model; Esscher transform (search for similar items in EconPapers)
JEL-codes: F31 G12 G13 G15 (search for similar items in EconPapers)
Date: 2016
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (12)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:finlet:v:16:y:2016:i:c:p:208-219

DOI: 10.1016/j.frl.2015.12.005

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