Analytical approximation of the transition density in a local volatility model (Q432231): Difference between revisions
From MaRDI portal
Changed an Item |
Set profile property. |
||
Property / MaRDI profile type | |||
Property / MaRDI profile type: MaRDI publication profile / rank | |||
Normal rank |
Revision as of 00:15, 5 March 2024
scientific article
Language | Label | Description | Also known as |
---|---|---|---|
English | Analytical approximation of the transition density in a local volatility model |
scientific article |
Statements
Analytical approximation of the transition density in a local volatility model (English)
0 references
3 July 2012
0 references
The paper is mainly concerned with one-dimensional local volatility market models of the form \[ \text{d}S_t=\mu(t, S_t)\text{d} t+\sigma(t, S_t)S_t\text{d}W_t. \] Exploiting the analytical approximation of function \(\sigma\) the authors obtain an expansion of the transition density \(\Gamma(t, S_0; T, S)\) of \(S\) of the form \[ \Gamma(t, S_0; T, S)\approx \Gamma^0(t, S_0; T, S)+\sum_{n=1}^NJ_{S_0}^n\Gamma^0(t, S_0; T, S), \quad N\geq1, \] where the main term \(\Gamma^0(t, S_0; T, S)\) is the density in a suitable Black-Scholes model, while \(J_{S_0}^n\) is a differential operator containing derivatives w.r.t. \(S_0\). This is the expansion in terms of BS-Greeks. An iterative algorithm for the explicit expressions of the operators \(J_{S_0}^n\) is constructed. This algorithm is straightforward to implement by using a symbolic computation software. The analytical approximation formulae are tested with a Monte-Carlo simulation in the context of one-dimensional local volatility models (standard quadratic and CEV).
0 references
local volatility
0 references
analytical approximation
0 references
heat kernel expansion
0 references
Black-Scholes formula
0 references
transition density
0 references