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Option Prices, Implied Price Processes, and Stochastic Volatility

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Listed:
  • Mark Britten-Jones

    (London Business School)

  • Anthony Neuberger

    (London Business School)

Abstract

This paper characterizes all continuous price processes that are consistent with current option prices. This extends Derman and Kani (1994), Dupire (1994, 1997), and Rubinstein (1994), who only consider processes with deterministic volatility. Our characterization implies a volatility forecast that does not require a specific model, only current option prices. We show how arbitrary volatility processes can be adjusted to fit current option prices exactly, just as interest rate processes can be adjusted to fit bond prices exactly. The procedure works with many volatility models, is fast to calibrate, and can price exotic options efficiently using familiar lattice techniques. Copyright The American Finance Association 2000.

Suggested Citation

  • Mark Britten-Jones & Anthony Neuberger, 2000. "Option Prices, Implied Price Processes, and Stochastic Volatility," Journal of Finance, American Finance Association, vol. 55(2), pages 839-866, April.
  • Handle: RePEc:bla:jfinan:v:55:y:2000:i:2:p:839-866
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    References listed on IDEAS

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