Malaysian Journal of Mathematical Sciences, January 2017, Vol. 11, No. 1
Pricing Holder-Extendable Options in a Stochastic Volatility Model with an Ornstein-Uhlenbeck Process
Ibrahim, S. N. I., Ng, T. W., O'Hara, J. G., and Nawawi, A.
Corresponding Email: iqmal@upm.edu.my
Received date: 25 March 2016
Accepted date: 25 November 2017
Abstract:
Holder-extendable options are characterized by two maturity dates, which means the option can be exercised at either the expiration date or the extended maturity date. This paper develops a pricing framework for holder-extendable options which deals with the extended version of a stochastic volatility model with an Ornstein-Uhlenbeck (OU) process. The extended model allows correlation between volatility and asset returns. The method uses Fourier inversion techniques that does not require an initial guess of the characteristic functions. A closed-form pricing formula for holder-extendable options is derived for logarithmic asset price dynamics.
Keywords: Holder-extendable option, Ornstein-Uhlenbeck process, Fourier inversion, stochastic volatility
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