The Mathematical Institute, University of Oxford, Eprints Archive

High dimensional American options

Firth, Neil Powell (2005) High dimensional American options. PhD thesis, University of Oxford.

[img]
Preview
PDF
2578Kb

Abstract

Pricing single asset American options is a hard problem in mathematical finance. There are no closed form solutions available (apart from in the case of the perpetual option), so many approximations and numerical techniques have been developed. Pricing multi–asset (high dimensional) American options is still more difficult.

We extend the method proposed theoretically by Glasserman and Yu (2004) by employing regression basis functions that are martingales under geometric Brownian motion. This results in more accurate Monte Carlo simulations, and computationally cheap lower and upper bounds to the American option price. We have implemented these models in QuantLib, the open–source derivatives pricing library. The code for many of the models discussed in this thesis can be downloaded from quantlib.org as part of a practical pricing and risk management library.

We propose a new type of multi–asset option, the “Radial Barrier Option” for which we find analytic solutions. This is a barrier style option that pays out when a barrier, which is a function of the assets and their correlations, is hit. This is a useful benchmark test case for Monte Carlo simulations and may be of use in approximating multi–asset American options. We use Laplace transforms in this analysis which can be applied to give analytic results for the hitting times of Bessel processes.

We investigate the asymptotic solution of the single asset Black–Scholes–Merton equation in the case of low volatility. This analysis explains the success of some American option approximations, and has the potential to be extended to basket options.

Item Type:Thesis (PhD)
Subjects:D - G > Game theory, mathematical finance, economics, social and behavioral sciences
Research Groups:Mathematical and Computational Finance Group
ID Code:218
Deposited By:Eprints Administrator
Deposited On:23 Feb 2006
Last Modified:20 Jul 2009 14:19

Repository Staff Only: item control page