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Pricing exchange options under stochastic correlation

Author

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  • Villamor, Enrique
  • Olivares, Pablo

Abstract

In this paper we study the pricing of exchange options when the underlying assets have stochastic volatility and stochastic correlation. An approximated closed-form formula based on a Taylor expansion of the conditional Margrabe price is proposed. The problem is illustrated within the framework of the exchange between two different types of oil commodities.

Suggested Citation

  • Villamor, Enrique & Olivares, Pablo, 2024. "Pricing exchange options under stochastic correlation," The North American Journal of Economics and Finance, Elsevier, vol. 73(C).
    • Handle: RePEc:eee:ecofin:v:73:y:2024:i:c:s1062940824000780
    DOI: 10.1016/j.najef.2024.102153
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    More about this item

    Keywords

    Exchange options; Stochastic correlation; Taylor expansion; Ornstein–Uhlenbeck process;
    All these keywords.

    JEL classification:

    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C65 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Miscellaneous Mathematical Tools

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