Abstract

The semi-analytical valuation of CEV American options is either computationally expensive when it delivers sufficiently accurate prices, lacks accuracy when computations are faster, or involves functions whose computations can be unstable. Trinomial schemes have the disadvantage that there are no built-in ways to compute hedging sensitivities and re-runs are required for the computation of deltas and gammas. We propose a faster computational technique by discretizing the no-arbitrage partial differential equation using a high-order three-point (compact) finite difference approximation combined with a simple extrapolation process in time. This new CEV American option pricing algorithm is simple to implement and is shown to yield prices with high accuracy. The superiority of the procedure over existing schemes is numerically demonstrated.

Talk to us

Join us for a 30 min session where you can share your feedback and ask us any queries you have

Schedule a call

Disclaimer: All third-party content on this website/platform is and will remain the property of their respective owners and is provided on "as is" basis without any warranties, express or implied. Use of third-party content does not indicate any affiliation, sponsorship with or endorsement by them. Any references to third-party content is to identify the corresponding services and shall be considered fair use under The CopyrightLaw.