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Option Pricing and Distribution Characteristics

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  • David Mauler
  • James McDonald

Abstract

A number of flexible distributions (generalized beta of the second kind, inverse hyperbolic sine (IHS), $$g$$ g -and- $$h$$ h , Weibull, Burr-3, Burr-12, generalized gamma, reciprocal gamma) are examined in the setting of option-pricing to explore potential improvements over the standard assumption of lognormal returns. Price formulas are presented specific to each assumed distributional form. The IHS option price formula has not previously been presented in the literature. An empirical application follows where implied risk-neutral density functions for each distribution are estimated from options on the S&P 500 Index. The distributions’ performance relative to one another is then evaluated with the more flexible distributions performing similarly and outperforming their special and limiting cases, including the Black-Scholes which is based on the lognormal. Copyright Springer Science+Business Media New York 2015

Suggested Citation

  • David Mauler & James McDonald, 2015. "Option Pricing and Distribution Characteristics," Computational Economics, Springer;Society for Computational Economics, vol. 45(4), pages 579-595, April.
    • Handle: RePEc:kap:compec:v:45:y:2015:i:4:p:579-595
    DOI: 10.1007/s10614-014-9441-z
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    More about this item

    Keywords

    Option pricing; Implied distributions; Generalized distributions;
    All these keywords.

    JEL classification:

    • C50 - Mathematical and Quantitative Methods - - Econometric Modeling - - - General

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