Stochastic Volatility: Risk Minimization and Model Risk
AbstractIn this paper locally risk-minimizing hedge strategies for European-style contingent claims are derived and tested for a general class of stochastic volatility models. These strategies are as easy to implement as ordinary delta hedges, yet in realistic settings they produce markedly lower hedge errors. Our experimental investigations on model risk furthermore show that locally risk-minimizing hedges are robust with respect to parameter uncertainty as well as misspecifications of the stochastic volatility model.
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Bibliographic InfoPaper provided by Swiss Finance Institute in its series Swiss Finance Institute Research Paper Series with number 07-10.
Length: 18 pages
Date of creation: Feb 2007
Date of revision:
Locally risk-minimizing hedge; delta hedge; stochastic volatility; model risk;
Find related papers by JEL classification:
- C90 - Mathematical and Quantitative Methods - - Design of Experiments - - - General
- G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
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