Moment Methods for Exotic Volatility Derivatives

16 Pages Posted: 15 Oct 2007

Date Written: October 13, 2007

Abstract

The latest generation of volatility derivatives goes beyond variance and volatility swaps and probe our ability to price realized variance and sojourn times along bridges for the underlying stock price process. In this paper, we give an operator algebraic treatment of this problem based on Dyson expansions and moment methods and discuss applications to exotic volatility derivatives. The methods are quite flexible and allow for a specification of the underlying process which is semi-parametric or even non-parametric, including state-dependent local volatility, jumps, stochastic volatility and regime switching. We find that volatility derivatives are particularly well suited to be treated with moment methods, whereby one extrapolates the distribution of the relevant path functionals on the basis of a few moments. We consider a number of exotics such as variance knockouts, conditional corridor variance swaps, gamma swaps and variance swaptions and give valuation formulas in detail.

Keywords: volatility derivatives, operator methods, moment methods, conditional corridor variance swaps, variance knockout options

JEL Classification: G13

Suggested Citation

Albanese, Claudio and Osseiran, Adel, Moment Methods for Exotic Volatility Derivatives (October 13, 2007). Available at SSRN: https://ssrn.com/abstract=1021401 or http://dx.doi.org/10.2139/ssrn.1021401

Claudio Albanese (Contact Author)

Global Valuation ( email )

9 Devonshire Sq.
London, London EC2M 4YF
United Kingdom

Adel Osseiran

Imperial College London ( email )

South Kensington Campus
Exhibition Road
London, Greater London SW7 2AZ
United Kingdom

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