Option pricing under multifactor Black-Scholes model using orthogonal spline wavelets

DOI10.1016/J.MATCOM.2024.01.020arXiv2211.13890OpenAlexW4391418546WikidataQ128964220 ScholiaQ128964220MaRDI QIDQ6129482FDOQ6129482

Authors: Dana Černá, Kateřina Fiňková 

Publication date: 17 April 2024

Published in: Mathematics and Computers in Simulation (Search for Journal in Brave)

Abstract: The paper focuses on pricing European-style options on several underlying assets under the Black-Scholes model represented by a nonstationary partial differential equation. The proposed method combines the Galerkin method with $L^2$-orthogonal sparse grid spline wavelets and the Crank-Nicolson scheme with Rannacher time-stepping. To this end, we construct an orthogonal cubic spline wavelet basis on the interval satisfying homogeneous Dirichlet boundary conditions and design a wavelet basis on the unit cube using the sparse tensor product. The method brings the following advantages. First, the number of basis functions is significantly smaller than for the full grid, which makes it possible to overcome the so-called curse of dimensionality. Second, some matrices involved in the computation are identity matrices, which significantly simplifies and streamlines the algorithm, especially in higher dimensions. Further, we prove that discretization matrices have uniformly bounded condition numbers, even without preconditioning, and that the condition numbers do not depend on the dimension of the problem. Due to the use of cubic spline wavelets, the method is higher-order convergent. Numerical experiments are presented for options on the geometric average.

Full work available at URL: https://arxiv.org/abs/2211.13890

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zbMATH Keywords

condition numberBlack-Scholes modelEuropean optionwavelet-Galerkin methodsparse gridorthogonal spline wavelet

Mathematics Subject Classification ID

Game theory, economics, finance, and other social and behavioral sciences (91-XX) Numerical analysis (65-XX)

Cited In (1)

• An operator splitting method for multi-asset options with the Feynman-Kac formula

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