Vanna-Volga methods applied to FX derivatives: from theory to market practice

DOI10.1142/S0219024910006212zbMATH Open1203.91283arXiv0904.1074OpenAlexW3123541581MaRDI QIDQ3067166FDOQ3067166

Grégory Rayée, Nikos S. Skantzos, Griselda Deelstra, Frédéric Bossens

Publication date: 20 January 2011

Published in: International Journal of Theoretical and Applied Finance (Search for Journal in Brave)

Abstract: We study Vanna-Volga methods which are used to price first generation exotic options in the Foreign Exchange market. They are based on a rescaling of the correction to the Black-Scholes price through the so-called `probability of survival' and the `expected first exit time'. Since the methods rely heavily on the appropriate treatment of market data we also provide a summary of the relevant conventions. We offer a justification of the core technique for the case of vanilla options and show how to adapt it to the pricing of exotic options. Our results are compared to a large collection of indicative market prices and to more sophisticated models. Finally we propose a simple calibration method based on one-touch prices that allows the Vanna-Volga results to be in line with our pool of market data.

Full work available at URL: https://arxiv.org/abs/0904.1074

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zbMATH Keywords

foreign exchangeexotic optionsmarket conventionsVanna-Volga

Mathematics Subject Classification ID

Derivative securities (option pricing, hedging, etc.) (91G20) Statistical methods; risk measures (91G70)

Cites Work

• The pricing of options and corporate liabilities
• A Closed-Form Solution for Options with Stochastic Volatility with Applications to Bond and Currency Options
• Title not available (Why is that?)
• Interest rate models -- theory and practice. With smile, inflation and credit
• Paul Wilmott on quantitative finance. 3 Vols. With CD-ROM

Cited In (2)

• A multivariate stochastic volatility model with applications in the foreign exchange market
• Multivariate FX models with jumps: triangles, quantos and implied correlation

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