A delayed stochastic volatility correction to the constant elasticity of variance model

Min Ku Lee, Jeong Hoon Kim

Research output: Contribution to journalArticle

1 Citation (Scopus)

Abstract

The Black-Scholes model does not account non-Markovian property and volatility smile or skew although asset price might depend on the past movement of the asset price and real market data can find a non-flat structure of the implied volatility surface. So, in this paper, we formulate an underlying asset model by adding a delayed structure to the constant elasticity of variance (CEV) model that is one of renowned alternative models resolving the geometric issue. However, it is still one factor volatility model which usually does not capture full dynamics of the volatility showing discrepancy between its predicted price and market price for certain range of options. Based on this observation we combine a stochastic volatility factor with the delayed CEV structure and develop a delayed hybrid model of stochastic and local volatilities. Using both a martingale approach and a singular perturbation method, we demonstrate the delayed CEV correction effects on the European vanilla option price under this hybrid volatility model as a direct extension of our previous work [12].

Original languageEnglish
Pages (from-to)611-622
Number of pages12
JournalActa Mathematicae Applicatae Sinica
Volume32
Issue number3
DOIs
Publication statusPublished - 2016 Jul 1

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Stochastic Volatility
Volatility
Elasticity
Implied Volatility
Singular Perturbation Method
Black-Scholes Model
European Options
Model
Hybrid Model
Martingale
Skew
Discrepancy
Alternatives
Range of data
Demonstrate

All Science Journal Classification (ASJC) codes

  • Applied Mathematics

Cite this

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A delayed stochastic volatility correction to the constant elasticity of variance model. / Lee, Min Ku; Kim, Jeong Hoon.

In: Acta Mathematicae Applicatae Sinica, Vol. 32, No. 3, 01.07.2016, p. 611-622.

Research output: Contribution to journalArticle

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