Detecting and repairing arbitrage in traded option prices

DOI10.1080/1350486X.2020.1846573MaRDI QIDQ4994674zbMATH OpenOpenAlexFDO

Authors Samuel N. Cohen, Sheng Wang, C. Reisinger

Publication date 21 June 2021

Published in Applied Mathematical Finance (Search for Journal in Brave)

Full work available at URL https://arxiv.org/abs/2008.09454

zbMATH Keywords

data cleansingoption pricesstatic arbitrage

Mathematics Subject Classification ID

Linear programming (90C05) Derivative securities (option pricing, hedging, etc.) (91G20)

Abstract: Option price data are used as inputs for model calibration, risk-neutral density estimation and many other financial applications. The presence of arbitrage in option price data can lead to poor performance or even failure of these tasks, making pre-processing of the data to eliminate arbitrage necessary. Most attention in the relevant literature has been devoted to arbitrage-free smoothing and filtering (i.e. removing) of data. In contrast to smoothing, which typically changes nearly all data, or filtering, which truncates data, we propose to repair data by only necessary and minimal changes. We formulate the data repair as a linear programming (LP) problem, where the no-arbitrage relations are constraints, and the objective is to minimise prices' changes within their bid and ask price bounds. Through empirical studies, we show that the proposed arbitrage repair method gives sparse perturbations on data, and is fast when applied to real world large-scale problems due to the LP formulation. In addition, we show that removing arbitrage from prices data by our repair method can improve model calibration with enhanced robustness and reduced calibration error.

Recommendations

• CALIBRATED OPTION BOUNDS
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Cited in

(14)

• CHANCE DISCOVERY IN STOCK INDEX OPTION AND FUTURES ARBITRAGE
• Arbitrage-Free Neural-SDE Market Models
• Hedging Option Books Using Neural-SDE Market Models
• On intermediate marginals in martingale optimal transportation
• Simulation of Arbitrage-Free Implied Volatility Surfaces
• No arbitrage global parametrization for the eSSVI volatility surface
• Detecting data-driven robust statistical arbitrage strategies with deep neural networks
• Improved robust price bounds for multi-asset derivatives under market-implied dependence information
• Neural networks can detect model-free static arbitrage strategies
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• The implied volatility surface (also) is path-dependent
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• Correction to: ``No-arbitrage commodity option pricing with market manipulation

Describes a project that uses

Uses Software

• CVXOPT

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