Exact Simulation of Bessel Diffusions

Roman N. Makarov and Devin Glew

Papers from arXiv.org

Abstract: We consider the exact path sampling of the squared Bessel process and some other continuous-time Markov processes, such as the CIR model, constant elasticity of variance diffusion model, and hypergeometric diffusions, which can all be obtained from a squared Bessel process by using a change of variable, time and scale transformation, and/or change of measure. All these diffusions are broadly used in mathematical finance for modelling asset prices, market indices, and interest rates. We show how the probability distributions of a squared Bessel bridge and a squared Bessel process with or without absorption at zero are reduced to randomized gamma distributions. Moreover, for absorbing stochastic processes, we develop a new bridge sampling technique based on conditioning on the first hitting time at zero. Such an approach allows us to simplify simulation schemes. New methods are illustrated with pricing path-dependent options.

Date: 2009-10
New Economics Papers: this item is included in nep-cmp
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Citations: View citations in EconPapers (2)

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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:0910.4177

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