Optimal Hedging of Options with Small but Arbitrary Transaction Cost Structure

A.E. Whalley and P. Wilmott

OFRC Working Papers Series from Oxford Financial Research Centre

Abstract: In this paper we consider the problem of hedging options in the presence of costs in trading the underlying asset. This work is an asymptotic analysis of a stochastic control problem, as in Hodges & Neuberger (1989) and Davis, Panas & Zariphopoulou (1993) . We derive a simple expression for the `hedging bandwidth' around the Black-Scholes delta; this is the region in which it is optimal not to rehedge. The effect of the costs on the value of the option, and on the width of this hedging band is of a significantly greater order of magnitude than the costs themselves. When costs are proportional to volume traded, rehedging should be done to the edge of this band; when there are fixed costs present, trading should be done to an optimal point in the interior of the no-transaction region.

Date: 1999
References: Add references at CitEc
Citations: View citations in EconPapers (9)

Downloads: (external link)
http://www.finance.ox.ac.uk/file_links/finecon_papers/1999mf09.pdf (application/pdf)
Our link check indicates that this URL is bad, the error code is: 500 Can't connect to www.finance.ox.ac.uk:80 (No such host is known. )

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: https://EconPapers.repec.org/RePEc:sbs:wpsefe:1999mf09

Access Statistics for this paper

More papers in OFRC Working Papers Series from Oxford Financial Research Centre Contact information at EDIRC.
Bibliographic data for series maintained by Maxine Collett ().