Quantization-based Bermudan option pricing in the foreign exchange world

Jean-Michel Fayolle, Vincent Lemaire, Thibaut Montes and Gilles Pagès

Journal of Computational Finance

Abstract: This paper proposes two numerical solutions based on product optimal quantization for the pricing of Bermudan options on foreign exchange rates. More precisely, we consider the pricing of Bermudan power reverse dual currency options, taking into account stochastic domestic and foreign interest rates in addition to stochastic foreign exchange rates; we therefore consider a three-factor model. For the two numerical methods, we give an estimation of the L^2 error induced by the approximations and we illustrate the methods with market-based examples that highlight their speed.

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