The αVG model for multivariate asset pricing: calibration and extension

Florence Guillaume ()

Review of Derivatives Research, 2013, vol. 16, issue 1, 25-52

Abstract: Luciano and Semeraro proposed a class of multivariate asset pricing models where the asset log-returns are modeled by a multivariate Brownian motion time-changed by a multivariate subordinator which consists of the weighted sum of a common and an idiosyncratic subordinator. In the original setting, Luciano and Semeraro imposed some constraints on the subordinator parameters such that the multivariate subordinator is of the same subordinator sub-class as its components, leading to asset log-returns of a particular Lévy type. This restriction leads to marginal characteristic functions which are independent on the common subordinator setting. In this paper, we propose to extend the original model by relaxing the constraints on the subordinator parameters, leading to marginal characteristic functions which become a function of the whole parameter set. Under this generalized version, the volatility of the log-returns depends on both the common and idiosyncratic subordinator settings, and not only on the idiosyncratic one, which makes the generalized model more in line with the empirical evidence of the presence of both an idiosyncratic and a common component in the business clock. For the numerical study, we compare the calibration fit of both univariate option surfaces and market implied correlations for a period extending from the 2nd of June 2008 until the 30th of October 2009 under the two model settings and assess the calibration risk arising from different calibration procedures by pricing traditional multivariate exotic options. In particular we show that the decoupling calibration procedure fails to accurately replicate the market dependence structure under the original model for highly correlated asset returns and we propose an alternative methodology which rests on a joint calibration of the univariate and the dependence structure and which leads to an accurate fit of the market reality under both the generalized and original models. Copyright Springer Science+Business Media, LLC 2013

Keywords: Multivariate asset pricing; αVG model; Calibration; Calibration risk; G12; C63 (search for similar items in EconPapers)
Date: 2013
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Citations: View citations in EconPapers (19)

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DOI: 10.1007/s11147-012-9080-2

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