TY - JOUR
T1 - Sequential Itô–Taylor expansions and characteristic functions of stochastic volatility models
AU - Ding, Kailin
AU - Cui, Zhenyu
AU - Liu, Yanchu
N1 - Publisher Copyright:
© 2023 Wiley Periodicals LLC.
PY - 2023/12
Y1 - 2023/12
N2 - This study proposes a new approach to derive the characteristic function of a general stochastic volatility model by sequentially utilizing the Itô–Taylor expansions. In particular, our method applies to non-affine stochastic volatility models with jumps, for which the corresponding characteristic functions do not have closed-form expressions. Numerically inverting these characteristic functions can yield accurate probability density functions of stochastic volatility models to serve for various pricing and hedging purposes in quantitative finance. The proposed sequential Itô–Taylor expansion allows us to handle derivatives with medium to long maturities. Numerical experiments illustrate the accuracy and effectiveness of our approach.
AB - This study proposes a new approach to derive the characteristic function of a general stochastic volatility model by sequentially utilizing the Itô–Taylor expansions. In particular, our method applies to non-affine stochastic volatility models with jumps, for which the corresponding characteristic functions do not have closed-form expressions. Numerically inverting these characteristic functions can yield accurate probability density functions of stochastic volatility models to serve for various pricing and hedging purposes in quantitative finance. The proposed sequential Itô–Taylor expansion allows us to handle derivatives with medium to long maturities. Numerical experiments illustrate the accuracy and effectiveness of our approach.
KW - Itô–Taylor expansion
KW - characteristic functions
KW - derivatives pricing
KW - stochastic volatility
UR - http://www.scopus.com/inward/record.url?scp=85166972705&partnerID=8YFLogxK
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U2 - 10.1002/fut.22455
DO - 10.1002/fut.22455
M3 - Article
AN - SCOPUS:85166972705
SN - 0270-7314
VL - 43
SP - 1750
EP - 1769
JO - Journal of Futures Markets
JF - Journal of Futures Markets
IS - 12
ER -