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De-noising option prices with the wavelet method

Author

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  • Haven, Emmanuel
  • Liu, Xiaoquan
  • Shen, Liya

Abstract

Financial time series are known to carry noise. Hence, techniques to de-noise such data deserve great attention. Wavelet analysis is widely used in science and engineering to de-noise data. In this paper we show, through the use of Monte Carlo simulations, the power of the wavelet method in the de-noising of option price data. We also find that the estimation of risk-neutral density functions and out-of-sample price forecasting is significantly improved after noise is removed using the wavelet method.

Suggested Citation

  • Haven, Emmanuel & Liu, Xiaoquan & Shen, Liya, 2012. "De-noising option prices with the wavelet method," European Journal of Operational Research, Elsevier, vol. 222(1), pages 104-112.
    • Handle: RePEc:eee:ejores:v:222:y:2012:i:1:p:104-112
    DOI: 10.1016/j.ejor.2012.04.020
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