NUMERICAL SOLUTIONS OF A MARKOV-SWITCHING ONE-FACTOR VOLATILITY MODEL WITH NONGLOBALLY LIPSCHITZ CONTINUOUS COEFFICIENTS

Emmanuel Coffie ()
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Emmanuel Coffie: Institute for Financial and Actuarial Mathematics, University of Liverpool, Liverpool L69 7ZL, UK

International Journal of Theoretical and Applied Finance (IJTAF), 2024, vol. 27, issue 07n08, 1-32

Abstract: We extend the one-factor stochastic volatility model to incorporate super-linearly growing coefficient terms with a Markov-switching framework. Since the proposed model is intractable analytically, we develop various mathematical techniques to investigate the convergence in probability of the numerical solutions to the true solution under the local Lipschitz condition. Finally, we perform simulation examples to demonstrate the convergence result and justify the result for the Monte Carlo evaluation of some option contracts written on an underlying interest rate whose prices are governed by this model.

Keywords: Stochastic volatility model; Markov-switching; truncated EM method; convergence in probability; options; Monte Carlo method (search for similar items in EconPapers)
Date: 2024
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DOI: 10.1142/S0219024925500013

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