Robust Spread Option Pricing

Abstract

I examine accuracy and robustness of European spread option pricing method of Hurd and Zhou (2010) for European spread options. This method approximates an indefinite bivariate integral by a sum over a uniform grid and the method's accuracy varies greatly depending on the choice of truncation bounds and the number of grid points. I find optimal parameters for a realistic sample of spread options and show that the pricing procedure can be made both faster and more robust by using a technique suggested in Andersen and Andreasen (2002), namely approximating the true distribution of log returns with a normal one and integrating the payoff transform against the difference of exact and approximating transforms.