MULTIVARIATE BINOMIAL APPROXIMATIONS FOR ASSET PRICES WITH NONSTATIONARY VARIANCE AND COVARIANCE CHARACTERISTICS

Teng-Suan Ho · Richard C. Stapleton · Marti G. Subrahmanyam

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Stochastic processes and financial applications Financial Markets and Investment Strategies Probability and Risk Models

Abstract

AbstractIn this article, we suggest an efficient method of approximating a general, multivariate lognormal distribution by a multivariate binomial process. There are two important features of such multivariate distributions. First, the state variables may have volatilities that change over time. Second, the two or more relevant state variables involved may covary with each other in a specified manner, with a time-varying covariance structure. We discuss the asymptotic properties of the resulting processes and show how the methodology can be used to value a complex, multiple exerciseable option whose payoff depends on the prices of two assets.

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2000American option valuation under stochastic interest rates 1996Option pricing using a binomial model with random time steps (A formal model of gamma hedging)2007Integrated Optimization of Procurement, Processing and Trade of Commodities in a Network Environment

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