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Revealing the Implied Risk-neutral MGF with the Wavelet Method

Author

Listed:
  • Emmanuel Haven
  • Xiaoquan Liu
  • Chenghu Ma
  • Liya Shen

Abstract

Options are believed to contain unique information about the risk- neutral moment generating function (MGF hereafter) or the risk-neutral probability density function (PDF hereafter). This paper applies the wavelet method to approximate the risk-neutral MGF of the under- lying asset from option prices. Monte Carlo simulation experiments are performed to elaborate how the risk-neutral MGF can be obtained using the wavelet method. The Black-Scholes model is chosen as the benchmark model. We offer a novel method for obtaining the implied risk-neutral MGF for pricing out-of-sample options and other complex or illiquid derivative claims on the underlying asset using information obtained from simulated data.

Suggested Citation

  • Emmanuel Haven & Xiaoquan Liu & Chenghu Ma & Liya Shen, 2013. "Revealing the Implied Risk-neutral MGF with the Wavelet Method," Working Papers 2013-10-14, Wang Yanan Institute for Studies in Economics (WISE), Xiamen University.
    • Handle: RePEc:wyi:wpaper:001991
    as

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    References listed on IDEAS

    as
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    Keywords

    Implied risk-neutral MGF; wavelets; options; Black-Scholes model.;
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