 A TWO-FACTOR MODEL OF DANISH MORTGAGE LOANSRolf Poulsen Soren S. Nielsen
No 288, Computing in Economics and Finance 2000 from Society for Computational Economics Abstract: This paper provides an extension of the Black-Scholes model for option pricing in which the logarithm of the volatility is assumed to be generated from an Ornstein-Uhlenbeck equation with fractional Riesz-Bessel motion (fRBm) input. The solution of the resulting stochastic differential equation will display intermittency, non-Gaussianity and long-range dependence (LRD) (and also volatility persistence). It should be noted that fractional Brownian motion (fBm) has been suggested in the literature as an input to the Black-Scholes model to capture the LRD in the asset price process. However, fBm is not a semimartingale, hence may imply the existence of arbitrage. On the other hand, fRBm is a semimartingale for a range of its parameters, hence admits the "no free lunch with vanishing risk" condition. We obtain the existence and uniqueness as well as exact solution of the model. An algorithm will also be provided to generate sample paths of fRBm, and therefore those of the asset price process through the exact solution of the equation. Date: 2000-07-05 There are no downloads for this item, see the EconPapers FAQ for hints about obtaining it. Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:sce:scecf0:288 Access Statistics for this paper More papers in Computing in Economics and Finance 2000 from Society for Computational Economics CEF 2000, Departament d'Economia i Empresa, Universitat Pompeu Fabra, Ramon Trias Fargas, 25,27, 08005, Barcelona, Spain. Contact information at EDIRC. |
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