On the pricing of forward starting options in Heston's model on stochastic volatility (Q2488478)

The authors consider the problem of pricing forward starting options in the presence of stochastic volatility. Heston's framework is used for the description of a volatility. Some reasons in favor of such model are produced. The main contributions of the paper are the following ones: with the help of Girsanov's theorem the authors change the martingale measure using the asset price at the strike determination as a numeraire. Then, they take the distribution of the volatility process into account and obtain a closed-form solution to the pricing problem of forward starting options in the presence of stochastic volatility. A formula of practical relevance is derived which covers the extreme exposure of forward starting options to a randomly changing volatility. At last, the usefulness of this formula is illustrated by numerical examples.