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Pricing Two-Asset Barrier Options Under Stochastic Correlation Via Perturbation

Author

Listed:
  • MARCOS ESCOBAR

    (Department of Mathematics, Ryerson University, 350 Victoria St. Toronto, M5B 2K3 Ontario, Canada)

  • BARBARA GÖTZ

    (Technische Universität München, München, Parking 11, 85748 Garching-Hochbrück, Germany)

  • DANIELA NEYKOVA

    (Technische Universität München, München, Parking 11, 85748 Garching-Hochbrück, Germany)

  • RUDI ZAGST

    (Chair of Mathematical Finance, Technische Universität München, München, Parking 11, 85748 Garching-Hochbrück, Germany)

Abstract

The correlation structure is crucial when pricing multi-asset products, in particular barrier options. In this work, we price two-asset path-dependent derivatives by means of perturbation theory in the context of a bi-dimensional asset model with stochastic correlation and volatilities. To our best knowledge, this is the first attempt at pricing barriers with stochastic correlation. It turns out that the leading term of the approximation corresponds to a constant covariance Black–Scholes type price with correction terms adjusting for stochastic volatility and stochastic correlation effects. The practicability of the presented method is illustrated by some numerical implementations.

Suggested Citation

  • Marcos Escobar & Barbara Götz & Daniela Neykova & Rudi Zagst, 2015. "Pricing Two-Asset Barrier Options Under Stochastic Correlation Via Perturbation," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 18(03), pages 1-44.
    • Handle: RePEc:wsi:ijtafx:v:18:y:2015:i:03:n:s0219024915500181
    DOI: 10.1142/S0219024915500181
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    Cited by:

    1. Marcos Escobar & Sven Panz, 2016. "A Note on the Impact of Parameter Uncertainty on Barrier Derivatives," Risks, MDPI, vol. 4(4), pages 1-25, September.

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