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Pricing virtual currency-linked derivatives with time-inhomogeneity

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  • Lian, Yu-Min
  • Chen, Jun-Home

Abstract

In this study, we provide a theoretical exploration of cryptocurrency option pricing under the presence of regime-switching cryptocurrency prices with jumps and state-dependent interest rates. The properties of cryptocurrency returns are empirically investigated, and the European-style cryptocurrency options are priced when the dynamics of the cryptocurrency price and the instantaneous forward interest rate are, respectively, driven by a two-factor, state-dependent stochastic volatility model with jumps and a state-dependent Heath-Jarrow-Morton model. Under an incomplete market setting, we employ a dynamic measure change technique to determine a pricing kernel and state-dependent risk premiums and then derive the option pricing formula. Numerical illustrations verify the superior pricing performance of proposed model over competing models, and empirical results show the fitness of the proposed model.

Suggested Citation

  • Lian, Yu-Min & Chen, Jun-Home, 2021. "Pricing virtual currency-linked derivatives with time-inhomogeneity," International Review of Economics & Finance, Elsevier, vol. 71(C), pages 424-439.
    • Handle: RePEc:eee:reveco:v:71:y:2021:i:c:p:424-439
    DOI: 10.1016/j.iref.2020.09.015
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    References listed on IDEAS

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    Cited by:

    1. Rico-Peña, Juan Jesús & Arguedas-Sanz, Raquel & López-Martin, Carmen, 2023. "Models used to characterise blockchain features. A systematic literature review and bibliometric analysis," Technovation, Elsevier, vol. 123(C).
    2. Lian, Yu-Min & Chen, Jun-Home, 2023. "Valuation of chooser options with state-dependent risks," Finance Research Letters, Elsevier, vol. 52(C).
    3. Yu-Min Lian & Jia-Ling Chen & Hsueh-Chien Cheng, 2022. "Predicting Bitcoin Prices via Machine Learning and Time Series Models," Journal of Applied Finance & Banking, SCIENPRESS Ltd, vol. 12(5), pages 1-2.

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    More about this item

    Keywords

    Cryptocurrency option; Two-factor; State-dependent stochastic volatility model with jumps; State-dependent heath–jarrow–morton model; Forward interest rate; Dynamic measure change;
    All these keywords.

    JEL classification:

    • C15 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Statistical Simulation Methods: General
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G01 - Financial Economics - - General - - - Financial Crises
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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