FX Market Behavior and Valuation
41 Pages Posted: 12 Jan 2007
Date Written: December 13, 2006
Abstract
Lecture notes for a short course on FX option valuation. Includes:
- Mathematical framework for FX valuation
- Handling the smile and term structure for vanilla options (calls and puts): --- Interpolation issues and techniques --- Handling business time --- Handling market conventions
- Pricing of barrier options: --- Attention to the joints along with the marginals --- Barrier option pricing models ------ Black-Scholes ------ Vanna-volga ------ Semi-static hedging ------ Stochastic volatility - the Heston model ------ Local volatility ------ Stochastic local volatility ------ Random risk reversal model
- Hedging performance as a measure of model quality.
Keywords: Foreign exchange, Forex, FX, Foreign, Call, Put, Vanilla, Black-Scholes, Vanna-volga, Hedging, Stochastic, volatility, local volatility, Random risk reversal, Stochastic skew, skew, term structure, numerical methods, interpolation, business time
JEL Classification: C63, C69, F31, G13, G15, C51, C52
Suggested Citation: Suggested Citation