Option pricing and Esscher transform under regime switching

Elliott, Robert J.; Chan, Laval; Siu, Tak Kuen

doi:10.1007/s10436-005-0013-z

Cited by 374 publications

(227 citation statements)

References 33 publications

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“…Esscher transform, which was first introduced by Gerber and Shiu [19], is a method of selecting the equivalent martingale measure and has extensive applications in the fields of finance and insurance. In this subsection, we adopt the random Esscher transform of Elliott et al [20] to identify an equivalent martingale measure. Here, we divide jump risks into two parts and price common jump risks caused by market factors in the model while neglecting the jump risks caused by the assets themselves.…”

Section: Equivalent Martingale Measure Via Esscher Transformmentioning

confidence: 99%

Pricing Vulnerable Options with Market Prices of Common Jump Risks under Regime-Switching Models

Han

Song

Niu

et al. 2018

Discrete Dynamics in Nature and Society

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This paper investigates the valuation of vulnerable European options considering the market prices of common systematic jump risks under regime-switching jump-diffusion models. The way of regime-switching Esscher transform is adopted to identify an equivalent martingale measure for pricing vulnerable European options. Explicit analytical pricing formulae for vulnerable European options are derived by risk-neutral pricing theory. For comparison, the other two cases are also considered separately. The first case considers all jump risks as unsystematic risks while the second one assumes all jumps risks to be systematic risks. Numerical examples for the valuation of vulnerable European options are provided to illustrate our results and indicate the influence of the market prices of jump risks on the valuation of vulnerable European options.

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Section: Equivalent Martingale Measure Via Esscher Transformmentioning

confidence: 99%

Pricing Vulnerable Options with Market Prices of Common Jump Risks under Regime-Switching Models

Han

Song

Niu

et al. 2018

Discrete Dynamics in Nature and Society

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“…We can always use (38) or other basic asset-pricing conditions along with an assumed process for returns to find the implications of changes in regime for financial variables in more general settings. There is a very large literature investigating these issues, covering topics such as portfolio allocation (Ang and Bekaert, 2002a;Guidolin and Timmermann, 2008), financial implications of rare-event risk (Evans, 1996;Barro, 2006), option pricing (Elliott, Chan, and Siu 2005), and the term structure of interest rates (Bekaert, Hodrick, and Marshall, 2001;Ang and Bekaert, 2002b;Bansal and Zhou, 2002). For a survey of this literature see Ang and Timmermann (2012).…”

Section: Closed-form Solution Of Dsge's and Asset-pricing Implicationsmentioning

confidence: 99%

Macroeconomic Regimes and Regime Shifts

Hamilton

2016

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Many economic time series exhibit dramatic breaks associated with events such as economic recessions, financial panics, and currency crises. Such changes in regime may arise from tipping points or other nonlinear dynamics and are core to some of the most important questions in macroeconomics. This paper surveys the literature for studying regime changes and summarizes available methods. Section 1 introduces some of the basic tools for analyzing such phenomena, using for illustration the move of an economy into and out of recession. Section 2 focuses on empirical methods, providing a detailed overview of econometric analysis of time series that are subject to changes in regime. Section 3 discusses theoretical treatment of macroeconomic models with changes in regime and reviews applications in a number of areas of macroeconomics. Some brief concluding recommendations for applied researchers are offered in Section 4.

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“…Such model leads to incomplete markets i.e., there exists more than one equivalent martingale measures (EMM) describing the risk-neutral price dynamic and compatible with the no arbitrage requirement. In order to price contingent claim, we shall determine EMM using regime switching Esscher transform introduced in Elliott et al (2005); Siu and Yang (2009). In fact, the classical definition of Esscher transform based on the moment generating function of a random variable is replaced by a conditional Esscher transform where the moment generating function is conditional to a subset of information available on the Markov chain.…”

Section: The Modelmentioning

confidence: 99%

On the Price of Risk Under a Regime Switching CGMY Process

Asiimwe

Mahera

Pamen

2016

Asia-Pac Financ Markets

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In this paper, we study option pricing under a regime-switching exponential Lévy model. Assuming that the coefficients are time-dependent and modulated by a finite state Markov chain, we generalise the work in Momeya and Morales (Method Comput Appl Probab, 2014, doi:10.1007/s11009-014-9399-2), and Siu and Yang (Acta Mathe Appl Sin 2:369-388, 2009), that is, we use a pricing method based on the Esscher transform conditional on the information available on the Markov chain. We also carry out numerical analysis, to show the impact of the risk induced by the underlying Markov chain on the price of the option.

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Option pricing and Esscher transform under regime switching

Abstract: Option pricing, Regime switching, Hidden Markov chain model, Esscher transform, MEMM, G13,

Cited by 374 publications

References 33 publications

Pricing Vulnerable Options with Market Prices of Common Jump Risks under Regime-Switching Models

Pricing Vulnerable Options with Market Prices of Common Jump Risks under Regime-Switching Models

Macroeconomic Regimes and Regime Shifts

On the Price of Risk Under a Regime Switching CGMY Process

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