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Calibration of local volatility using the local and implied instantaneous variance

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  • Gabriel Turinici

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    (CEREMADE - CEntre de REcherches en MAthématiques de la DEcision - CNRS : UMR7534 - Université Paris IX - Paris Dauphine)

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    Abstract

    We document the calibration of the local volatility in terms of local and implied instantaneous variances; we first explore the theoretical properties of the method for a particular class of volatilities. We confirm the theoretical results through a numerical procedure which uses a Gauss-Newton style approximation of the Hessian in the framework of a sequential quadratic programming (SQP) approach. The procedure performs well on benchmarks from the literature and on FOREX data.

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    File URL: http://hal.archives-ouvertes.fr/docs/00/34/87/33/PDF/gabriel_turinici16.pdf
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    Bibliographic Info

    Paper provided by HAL in its series Post-Print with number hal-00338114.

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    Date of creation: 09 Dec 2009
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    Publication status: Published, Journal of Computational Finance, 2009, 13, 2, 1--18
    Handle: RePEc:hal:journl:hal-00338114

    Note: View the original document on HAL open archive server: http://hal.archives-ouvertes.fr/hal-00338114
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    Related research

    Keywords: calibration; local volatility; implied volatility; Dupire formula; adjoint; instantaneous local variance; instantaneous implied variance; implied variance;

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    1. Lishang Jiang & Qihong Chen & Lijun Wang & Jin Zhang, 2003. "A new well-posed algorithm to recover implied local volatility," Quantitative Finance, Taylor & Francis Journals, Taylor & Francis Journals, vol. 3(6), pages 451-457.
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    Cited by:
    1. Cristian Homescu, 2011. "Adjoints and Automatic (Algorithmic) Differentiation in Computational Finance," Papers 1107.1831, arXiv.org.
    2. F. Gerlich & A. Giese & J. Maruhn & E. Sachs, 2012. "Parameter identification in financial market models with a feasible point SQP algorithm," Computational Optimization and Applications, Springer, Springer, vol. 51(3), pages 1137-1161, April.

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