Economics at your fingertips  

Quantization Under the Real-world Measure: Fast and Accurate Valuation of Long-dated Contracts

Ralph Rudd, Thomas McWalter, Joerg Kienitz and Eckhard Platen ()

Papers from

Abstract: This paper provides a methodology for fast and accurate pricing of the long-dated contracts that arise as the building blocks of insurance and pension fund agreements. It applies the recursive marginal quantization (RMQ) and joint recursive marginal quantization (JRMQ) algorithms outside the framework of traditional risk-neutral methods by pricing options under the real-world probability measure, using the benchmark approach. The benchmark approach is reviewed, and the real-world pricing theorem is presented and applied to various long-dated claims to obtain less expensive prices than suggested by traditional risk-neutral valuation. The growth-optimal portfolio (GOP), the central object of the benchmark approach, is modelled using the time-dependent constant elasticity of variance model (TCEV). Analytic European option prices are derived and the RMQ algorithm is used to efficiently and accurately price Bermudan options on the GOP. The TCEV model is then combined with a $3/2$ stochastic short-rate model and RMQ is used to price zero-coupon bonds and zero-coupon bond options, highlighting the departure from risk-neutral pricing.

New Economics Papers: this item is included in nep-ias
Date: 2018-01, Revised 2018-01
References: View references in EconPapers View complete reference list from CitEc
Citations: Track citations by RSS feed

Downloads: (external link) Latest version (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link:

Access Statistics for this paper

More papers in Papers from
Bibliographic data for series maintained by arXiv administrators ().

Page updated 2019-04-12
Handle: RePEc:arx:papers:1801.07044