TY - JOUR
T1 - Numerical schemes for option pricing in regime-switching jump diffusion models
AU - Florescu, Ionut
AU - Liu, Ruihua
AU - Mariani, Maria Cristina
AU - Sewell, Granville
PY - 2013/12
Y1 - 2013/12
N2 - In this paper, we present algorithms to solve a complex system of partial integro-differential equations (PIDE's) of parabolic type. The system is motivated by applications in finance where the solution of the system gives the price of European options in a regime-switching jump diffusion model. The new algorithms are based on theoretical analysis in Florescu et al. (2012) where the proof of convergence of the algorithms is carried out. The problems are also solved using a more traditional approach, where the integral terms (but not the derivative terms) are treated explicitly. Another contribution of this work details a novel type of jump distribution. Empirical evidence suggests that this type of distribution may be more appropriate to model jumps as it makes them more clearly distinguishable from the signal variability.
AB - In this paper, we present algorithms to solve a complex system of partial integro-differential equations (PIDE's) of parabolic type. The system is motivated by applications in finance where the solution of the system gives the price of European options in a regime-switching jump diffusion model. The new algorithms are based on theoretical analysis in Florescu et al. (2012) where the proof of convergence of the algorithms is carried out. The problems are also solved using a more traditional approach, where the integral terms (but not the derivative terms) are treated explicitly. Another contribution of this work details a novel type of jump distribution. Empirical evidence suggests that this type of distribution may be more appropriate to model jumps as it makes them more clearly distinguishable from the signal variability.
KW - Numerical algorithms
KW - implicit and explicit finite element methods
KW - option pricing
KW - regime-switching jump diffusion
KW - system of partial integro-differential equations
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U2 - 10.1142/S0219024913500465
DO - 10.1142/S0219024913500465
M3 - Article
AN - SCOPUS:84892845399
SN - 0219-0249
VL - 16
JO - International Journal of Theoretical and Applied Finance
JF - International Journal of Theoretical and Applied Finance
IS - 8
M1 - 13500465
ER -