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Pricing S&P500 barrier put option of American type under Heston–CIR model with regime-switching

Author

Listed:
  • Farshid Mehrdoust

    (Department of Applied Mathematics, Faculty of Mathematical Sciences, University of Guilan, P. O. Box)

  • Idin Noorani

    (Department of Applied Mathematics, Faculty of Mathematical Sciences, University of Guilan, P. O. Box)

Abstract

In this paper, we consider the regime-switching Heston–CIR model, where the parameters of the volatility process are modulated by a Hidden Markov chain and the unobserved regimes. Then, we calibrate the parameters of the volatility and interest rate processes by the expectation maximization (EM) and maximum likelihood estimation (MLE) algorithms, respectively. Next, we use the least square Monte-Carlo (LSM) algorithm to determine the S&P500 American barrier put option under the Heston–CIR model. Finally, by the binomial tree method as a benchmark, we provide some numerical experiments to illustrate the accuracy of the achieved results.

Suggested Citation

  • Farshid Mehrdoust & Idin Noorani, 2019. "Pricing S&P500 barrier put option of American type under Heston–CIR model with regime-switching," International Journal of Financial Engineering (IJFE), World Scientific Publishing Co. Pte. Ltd., vol. 6(02), pages 1-17, June.
    • Handle: RePEc:wsi:ijfexx:v:06:y:2019:i:02:n:s2424786319500142
    DOI: 10.1142/S2424786319500142
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    References listed on IDEAS

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    1. Longstaff, Francis A & Schwartz, Eduardo S, 2001. "Valuing American Options by Simulation: A Simple Least-Squares Approach," The Review of Financial Studies, Society for Financial Studies, vol. 14(1), pages 113-147.
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    8. Andrew Papanicolaou & Ronnie Sircar, 2014. "A regime-switching Heston model for VIX and S&P 500 implied volatilities," Quantitative Finance, Taylor & Francis Journals, vol. 14(10), pages 1811-1827, October.
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    Cited by:

    1. Mehrdoust, Farshid & Noorani, Idin & Hamdi, Abdelouahed, 2023. "Two-factor Heston model equipped with regime-switching: American option pricing and model calibration by Levenberg–Marquardt optimization algorithm," Mathematics and Computers in Simulation (MATCOM), Elsevier, vol. 204(C), pages 660-678.
    2. Noorani, Idin & Mehrdoust, Farshid & Nasroallah, Abdelaziz, 2021. "A generalized antithetic variates Monte-Carlo simulation method for pricing of Asian option in a Markov regime-switching model," Mathematics and Computers in Simulation (MATCOM), Elsevier, vol. 181(C), pages 1-15.
    3. Mehrdoust, Farshid & Noorani, Idin & Kanniainen, Juho, 2024. "Valuation of option price in commodity markets described by a Markov-switching model: A case study of WTI crude oil market," Mathematics and Computers in Simulation (MATCOM), Elsevier, vol. 215(C), pages 228-269.

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