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Quadratic approximation of slow factor of volatility in a Multi-factor Stochastic volatility Model

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  • Gifty Malhotra
  • R. Srivastava
  • H. C. Taneja

Abstract

In the present work, we propose a new multifactor stochastic volatility model in which slow factor of volatility is approximated by a parabolic arc. We retain ourselves to the perturbation technique to obtain approximate expression for European option prices. We introduce the notion of modified Black-Scholes price. We obtain a simplified expression for European option price which is perturbed around the modified Black-Scholes price and have also obtained the expression of modified price in terms of Black-Scholes price.

Suggested Citation

  • Gifty Malhotra & R. Srivastava & H. C. Taneja, 2017. "Quadratic approximation of slow factor of volatility in a Multi-factor Stochastic volatility Model," Papers 1703.10825, arXiv.org.
    • Handle: RePEc:arx:papers:1703.10825
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    References listed on IDEAS

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    1. Fouque,Jean-Pierre & Papanicolaou,George & Sircar,Ronnie & Sølna,Knut, 2011. "Multiscale Stochastic Volatility for Equity, Interest Rate, and Credit Derivatives," Cambridge Books, Cambridge University Press, number 9780521843584.
    2. Chernov, Mikhail & Ghysels, Eric, 2000. "A study towards a unified approach to the joint estimation of objective and risk neutral measures for the purpose of options valuation," Journal of Financial Economics, Elsevier, vol. 56(3), pages 407-458, June.
    3. Stein, Elias M & Stein, Jeremy C, 1991. "Stock Price Distributions with Stochastic Volatility: An Analytic Approach," The Review of Financial Studies, Society for Financial Studies, vol. 4(4), pages 727-752.
    4. Ball, Clifford A. & Roma, Antonio, 1994. "Stochastic Volatility Option Pricing," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 29(4), pages 589-607, December.
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