A Non-Lattice Pricing Model of American Options under Stochastic Volatility
In this article, an analytical approach to American option pricing under stochastic volatility is provided. Under stochastic volatility, the American option value can be computed as the sum of a corresponding European option price and an early exercise premium. By considering the analytical property of the optimal exercise boundary, the formula allows for recursive computation of the American option value. Simulation results show that a nonlattice method performs better than the lattice-based interpolation methods. The stochastic volatility model is also empirically tested using S&P 500 futures options intraday transactions data. Incorporating stochastic volatility is shown to improve pricing, hedging, and profitability in actual trading. [PUBLICATION ABSTRACT]
Finance and Financial Management
Journal of Futures Markets
ZHANG, Zhe and LIM, Kian Guan.
A Non-Lattice Pricing Model of American Options under Stochastic Volatility. (2006). Journal of Futures Markets. 26, (5), 417-448. Research Collection Lee Kong Chian School Of Business.
Available at: http://ink.library.smu.edu.sg/lkcsb_research/1081