Pricing via recursive quantization in stochastic volatility models

Giorgia Callegaro, Lucio Fiorin and Martino Grasselli

Quantitative Finance, 2017, vol. 17, issue 6, 855-872

Abstract: We provide the first recursive quantization-based approach for pricing options in the presence of stochastic volatility. This method can be applied to any model for which an Euler scheme is available for the underlying price process and it allows one to price vanillas, as well as exotics, thanks to the knowledge of the transition probabilities for the discretized stock process. We apply the methodology to some celebrated stochastic volatility models, including the Stein and Stein [Rev. Financ. Stud. 1991, (4), 727–752] model and the SABR model introduced in Hagan et al. [Wilmott Mag., 2002, 84–108]. A numerical exercise shows that the pricing of vanillas turns out to be accurate; in addition, when applied to some exotics like equity-volatility options, the quantization-based method overperforms by far the Monte Carlo simulation.

Date: 2017
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DOI: 10.1080/14697688.2016.1255348

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