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Analytic approximation formulae for pricing forward‐starting Asian options

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  • Chueh‐Yung Tsao
  • Chuang‐Chang Chang
  • Chung‐Gee Lin

Abstract

In this article we first identify a missing term in the Bouaziz, Briys, and Crouhy ( 1994 ) pricing formula for forward‐starting Asian options and derive the correct one. First, illustrate in certain cases that the missing term in their pricing formula could induce large pricing errors or unreasonable option prices. Second, we derive new analytic approximation formulae for valuing forward‐starting Asian options by adding the second‐order term in the Taylor series. We show that our formulae can accurately value forward‐starting Asian options with a large underlying asset's volatility or a longer time window for the average of the underlying asset prices, whereas the pricing errors for these options with the previously mentioned formula could be large. Third, we derive the hedge ratios for these options and compare their properties with those of plain vanilla options. © 2003 Wiley Periodicals, Inc. Jrl Fut Mark 23:487–516, 2003

Suggested Citation

  • Chueh‐Yung Tsao & Chuang‐Chang Chang & Chung‐Gee Lin, 2003. "Analytic approximation formulae for pricing forward‐starting Asian options," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 23(5), pages 487-516, May.
    • Handle: RePEc:wly:jfutmk:v:23:y:2003:i:5:p:487-516
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    Cited by:

    1. Dan Pirjol & Jing Wang & Lingjiong Zhu, 2017. "Short Maturity Forward Start Asian Options in Local Volatility Models," Papers 1710.03160, arXiv.org.
    2. Chih-Chen Hsu & Chung-Gee Lin & Tsung-Jung Kuo, 2020. "Pricing of Arithmetic Asian Options under Stochastic Volatility Dynamics: Overcoming the Risks of High-Frequency Trading," Mathematics, MDPI, vol. 8(12), pages 1-16, December.
    3. Rupak Chatterjee & Zhenyu Cui & Jiacheng Fan & Mingzhe Liu, 2018. "An efficient and stable method for short maturity Asian options," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 38(12), pages 1470-1486, December.
    4. Pagliarani, S. & Pascucci, A. & Pignotti, M., 2017. "Intrinsic expansions for averaged diffusion processes," Stochastic Processes and their Applications, Elsevier, vol. 127(8), pages 2560-2585.
    5. Chuang-Chang Chang & Chueh-Yung Tsao, 2011. "Efficient and accurate quadratic approximation methods for pricing Asian strike options," Quantitative Finance, Taylor & Francis Journals, vol. 11(5), pages 729-748.
    6. Chueh-Yung Tsao & Chao-Ching Liu, 2012. "Asian Options with Credit Risks: Pricing and Sensitivity Analysis," Emerging Markets Finance and Trade, Taylor & Francis Journals, vol. 48(S3), pages 96-115, September.

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