Algorithmic market making for options

Bastien Baldacci, Philippe Bergault and Olivier Gu\'eant

Papers from arXiv.org

Abstract: In this article, we tackle the problem of a market maker in charge of a book of options on a single liquid underlying asset. By using an approximation of the portfolio in terms of its vega, we show that the seemingly high-dimensional stochastic optimal control problem of an option market maker is in fact tractable. More precisely, when volatility is modeled using a classical stochastic volatility model -- e.g. the Heston model -- the problem faced by an option market maker is characterized by a low-dimensional functional equation that can be solved numerically using a Euler scheme along with interpolation techniques, even for large portfolios. In order to illustrate our findings, numerical examples are provided.

Date: 2019-07, Revised 2020-07
New Economics Papers: this item is included in nep-cmp
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Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:1907.12433

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