Li, Minqiang (2009): A Quasianalytical Interpolation Method for Pricing American Options under General Multidimensional Diffusion Processes.

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Abstract
We present a quasianalytical method for pricing multidimensional American options based on interpolating two arbitrage bounds, along the lines of Johnson (1983). Our method allows for the close examination of the interpolation parameter on a rigorous theoretical footing instead of empirical regression. The method can be adapted to general diffusion processes as long as quick and accurate pricing methods exist for the corresponding European and perpetual American options. The American option price is shown to be approximately equal to an interpolation of two European option prices with the interpolation weight proportional to a perpetual American option. In the BlackScholes model, our method achieves the same e±ciency as BaroneAdesi and Whaley's (1987) quadratic approximation with our method being generally more accurate for outofthemoney and longmaturity options. When applied to Heston's stochastic volatility model, our method is shown to be extremely e±cient and fairly accurate.
Item Type:  MPRA Paper 

Original Title:  A Quasianalytical Interpolation Method for Pricing American Options under General Multidimensional Diffusion Processes 
Language:  English 
Keywords:  American option; Interpolation method; Quasianalytical approximation; Critical bound ary; Heston's Stochastic volatility model 
Subjects:  C  Mathematical and Quantitative Methods > C6  Mathematical Methods ; Programming Models ; Mathematical and Simulation Modeling > C63  Computational Techniques ; Simulation Modeling C  Mathematical and Quantitative Methods > C0  General > C02  Mathematical Methods G  Financial Economics > G1  General Financial Markets > G13  Contingent Pricing ; Futures Pricing 
Item ID:  17348 
Depositing User:  Minqiang Li 
Date Deposited:  02 Oct 2009 10:14 
Last Modified:  07 Oct 2019 00:45 
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URI:  https://mpra.ub.unimuenchen.de/id/eprint/17348 