How Duration Between Trades of Underlying Securities Affects Option Prices

Álvaro Cartea () and Thilo Meyer-Brandis

MPRA Paper from University Library of Munich, Germany

Abstract: We propose a model for stock price dynamics that explicitly incorporates random waiting times between trades, also known as duration, and show how option prices can be alculated using this model. We use ultra-high-frequency data for blue-chip companies to motivate a particular choice of waiting-time distribution and then calibrate risk- eutral parameters from options data. We also show that the convexity commonly observed in implied volatilities may be explained by the presence of duration between trades. Furthermore, we find that, ceteris paribus, implied olatility decreases in the presence of longer durations, a result consistent with the findings of Engle (2000) and Dufour and Engle (2000) which demonstrates the relationship between levels of activity and volatility for stock prices. Finally, by directly employing information given by time-stamps of trades, our approach provides a direct link between the literature on stochastic time changes and business time (see Clark (1973)) and, at the same time, highlights the link between number and time of arrival of transactions with implied volatility and stochastic volatility models.

Keywords: Duration between trades; waiting-times; stochastic volatility; operational clock; transaction time; high frequency data. (search for similar items in EconPapers)
JEL-codes: G12 G13 (search for similar items in EconPapers)
Date: 2009-04-22
New Economics Papers: this item is included in nep-mst
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://mpra.ub.uni-muenchen.de/16179/1/MPRA_paper_16179.pdf original version (application/pdf)

Related works:
Journal Article: How Duration Between Trades of Underlying Securities Affects Option Prices (2010)
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: https://EconPapers.repec.org/RePEc:pra:mprapa:16179

Access Statistics for this paper

More papers in MPRA Paper from University Library of Munich, Germany Ludwigstraße 33, D-80539 Munich, Germany. Contact information at EDIRC.
Bibliographic data for series maintained by Joachim Winter ().