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The Valuation of American Options with Stochastic Stopping Time Constraints

Author

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  • Daniel Egloff
  • Markus Leippold

Abstract

This paper concerns the pricing of American options with stochastic stopping time constraints expressed in terms of the states of a Markov process. Following the ideas of Menaldi et al., we transform the constrained into an unconstrained optimal stopping problem. The transformation replaces the original payoff by the value of a generalized barrier option. We also provide a Monte Carlo method to numerically calculate the option value for multidimensional Markov processes. We adapt the Longstaff-Schwartz algorithm to solve the stochastic Cauchy-Dirichlet problem related to the valuation problem of the barrier option along a set of simulated trajectories of the underlying Markov process.

Suggested Citation

  • Daniel Egloff & Markus Leippold, 2009. "The Valuation of American Options with Stochastic Stopping Time Constraints," Applied Mathematical Finance, Taylor & Francis Journals, vol. 16(3), pages 287-305.
    • Handle: RePEc:taf:apmtfi:v:16:y:2009:i:3:p:287-305
    DOI: 10.1080/13504860802645706
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    Cited by:

    1. Treviño Aguilar Erick, 2012. "Stable stopping," Statistics & Risk Modeling, De Gruyter, vol. 29(2), pages 155-174, June.

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