A Contour Integral Method for the Black–Scholes and Heston Equations

DOI10.1137/090776081zbMATH Open1233.65067arXiv0912.0434OpenAlexW2163191644MaRDI QIDQ3095083FDOQ3095083

Authors: J. A. C. Weideman, Karel J. in 't Hout 

Publication date: 28 October 2011

Published in: SIAM Journal on Scientific Computing (Search for Journal in Brave)

Abstract: A contour integral method recently proposed by Weideman [IMA J. Numer. Anal., to appear] for integrating semi-discrete advection-diffusion PDEs, is extended for application to some of the important equations of mathematical finance. Using estimates for the numerical range of the spatial operator, optimal contour parameters are derived theoretically and tested numerically. Test examples presented are the Black-Scholes PDE in one space dimension and the Heston PDE in two dimensions. In the latter case efficiency is compared to ADI splitting schemes for solving this problem. In the examples it is found that the contour integral method is superior for the range of medium to high accuracy requirements. Further improvements to the current implementation of the contour integral method are suggested.

Full work available at URL: https://arxiv.org/abs/0912.0434

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zbMATH Keywords

Laplace transformnumerical resultsBlack-Scholes equationmatrix exponentialadvection-diffusion equationHeston equationKrylov iterative methodfinancial option pricingnumerical contour integrationquadrature trapezoidal formula

Mathematics Subject Classification ID

Parallel numerical computation (65Y05) Numerical methods (including Monte Carlo methods) (91G60) Iterative numerical methods for linear systems (65F10) Multistep, Runge-Kutta and extrapolation methods for ordinary differential equations (65L06) Method of lines for initial value and initial-boundary value problems involving PDEs (65M20) Microeconomic theory (price theory and economic markets) (91B24) First-order hyperbolic systems (35L40)

Cited In (22)

• Pseudospectral roaming contour integral methods for convection-diffusion equations
• The homotopy perturbation method for the Black–Scholes equation
• Laplace inversion for the solution of an abstract heat equation without the forward transform of the source term
• Evaluation of generalized Mittag-Leffler functions on the real line
• Wider contours and adaptive contours
• Fast numerical contour integral method for fractional diffusion equations
• A block Krylov subspace time-exact solution method for linear ordinary differential equation systems.
• A robust spectral method for solving Heston's model
• A contour method for time-fractional PDEs and an application to fractional viscoelastic beam equations
• A fast algorithm for parabolic PDE-based inverse problems based on Laplace transforms and flexible Krylov solvers
• An efficient ETD method for pricing American options under stochastic volatility with nonsmooth payoffs
• Convergence analysis of iterative Laplace transform methods for the coupled PDEs from regime-switching option pricing
• The contour integral method for Feynman-Kac equation with two internal states
• On numerical contour integral method for fractional diffusion equations with variable coefficients
• A ROM-accelerated parallel-in-time preconditioner for solving all-at-once systems in unsteady convection-diffusion PDEs
• Contour integral solution of elliptic PDEs in cylindrical domains
• Model Order Reduction in Contour Integral Methods for Parametric PDEs
• A Lie algebraic and numerical investigation of the Black-Scholes equation with Heston volatility model
• Gauss-Hermite quadrature for the Bromwich integral
• Iterative solution of shifted positive-definite linear systems arising in a numerical method for the heat equation based on Laplace transformation and quadrature
• Fast Laplace transform methods for free-boundary problems of fractional diffusion equations
• Numerical inverse Laplace transform for convection-diffusion equations

Uses Software

• UMFPACK
• Eigtool

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