Applying the Wiener-Hopf Monte Carlo simulation technique for Levy processes to path functionals such as first passage times, undershoots and overshoots
AbstractIn this note we apply the recently established Wiener-Hopf Monte Carlo (WHMC) simulation technique for Levy processes from Kuznetsov et al.  to path functionals, in particular first passage times, overshoots, undershoots and the last maximum before the passage time. Such functionals have many applications, for instance in finance (the pricing of exotic options in a Levy model) and insurance (ruin time, debt at ruin and related quantities for a Levy insurance risk process). The technique works for any Levy process whose running infimum and supremum evaluated at an independent exponential time allows sampling from. This includes classic examples such as stable processes, subclasses of spectrally one sided Levy processes and large new families such as meromorphic Levy processes. Finally we present some examples. A particular aspect that is illustrated is that the WHMC simulation technique performs much better at approximating first passage times than a `plain' Monte Carlo simulation technique based on sampling increments of the Levy process.
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Bibliographic InfoPaper provided by arXiv.org in its series Papers with number 1306.3923.
Date of creation: Jun 2013
Date of revision: Mar 2014
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Web page: http://arxiv.org/
This paper has been announced in the following NEP Reports:
- NEP-ALL-2013-06-24 (All new papers)
- NEP-CMP-2013-06-24 (Computational Economics)
- NEP-ETS-2013-06-24 (Econometric Time Series)
- NEP-ORE-2013-06-24 (Operations Research)
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- Ernesto Mordecki, 2002. "Optimal stopping and perpetual options for Lévy processes," Finance and Stochastics, Springer, vol. 6(4), pages 473-493.
- Carr, Peter, 1998. "Randomization and the American Put," Review of Financial Studies, Society for Financial Studies, vol. 11(3), pages 597-626.
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