Computation in an Asymptotic Expansion Method
AbstractAn asymptotic expansion scheme in finance initiated by Kunitomo and Takahashi  and Yoshida is a widely applicable methodology for analytic approximation of the expectation of a certain functional of diffusion processes. ,  and  provide explicit formulas of conditional expectations necessary for the asymptotic expansion up to the third order. In general, the crucial step in practical applications of the expansion is calculation of conditional expectations for a certain kind of Wiener functionals. This paper presents two methods for computing the conditional expectations that are powerful especially for high order expansions: The first one, an extension of the method introduced by the preceding papers presents a general scheme for computation of the conditional expectations and show the formulas useful for expansions up to the fourth order explicitly. The second one develops a new calculation algorithm for computing the coefficients of the expansion through solving a system of ordinary differential equations that is equivalent to computing the conditional expectations. To demonstrate their effectiveness, the paper gives numerical examples of the approximation for ƒÉ-SABR model up to the fifth order and a cross-currency Libor market model with a general stochastic volatility model of the spot foreign exchange rate up to the fourth order.
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Bibliographic InfoPaper provided by CIRJE, Faculty of Economics, University of Tokyo in its series CIRJE F-Series with number CIRJE-F-621.
Length: 46 pages
Date of creation: May 2009
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This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-06-17 (All new papers)
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