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Valuation of Currency Options in Markets with a Crunch

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  • Abdulnasser Hatemi-J
  • Youssef El-Khatib

Abstract

This work studies the valuation of currency options in markets suffering from a financial crisis. We consider a European option where the underlying asset is a foreign currency. We assume that the value of the underlying asset is a stochastic process that follows a modified Black-Scholes model with an augmented stochastic volatility. Under these settings, we provide a closed form solution for the option-pricing problem on foreign currency for the European call and put options. A mathematical proof is provided for the underlying solution. In addition, simulation results and an application are provided.

Suggested Citation

  • Abdulnasser Hatemi-J & Youssef El-Khatib, 2018. "Valuation of Currency Options in Markets with a Crunch," Papers 1801.08346, arXiv.org.
    • Handle: RePEc:arx:papers:1801.08346
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    References listed on IDEAS

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    1. Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-654, May-June.
    2. Garman, Mark B. & Kohlhagen, Steven W., 1983. "Foreign currency option values," Journal of International Money and Finance, Elsevier, vol. 2(3), pages 231-237, December.
    3. El-Khatib, Youssef & Abdulnasser, Hatemi-J, 2011. "On the calculation of price sensitivities with jump-diffusion structure," MPRA Paper 30596, University Library of Munich, Germany.
    4. Kaushik I. Amin & Robert A. Jarrow, 2008. "Pricing foreign currency options under stochastic interest rates," World Scientific Book Chapters, in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 14, pages 307-326, World Scientific Publishing Co. Pte. Ltd..
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