Option Pricing with a Pentanomial Lattice Model that Incorporates Skewness and Kurtosis
This paper analyzes a pentanomial lattice model for option pricing that incorporates skewness and kurtosis of the underlying asset. The lattice is constructed using a moment matching procedure, and explicit positivity conditions for branch probabilities are provided in terms of skewness and kurtosis. We also explore the limiting distribution of this lattice, which is compound Poisson, and give a Fourier transform based formula that can be used to more efficiently price European call and put options. An example illustrates some of the features of this model in capturing volatility smiles and smirks.
Volume (Year): 14 (2007)
Issue (Month): 1 ()
|Contact details of provider:|| Web page: http://www.tandfonline.com/RAMF20|
|Order Information:||Web: http://www.tandfonline.com/pricing/journal/RAMF20|
When requesting a correction, please mention this item's handle: RePEc:taf:apmtfi:v:14:y:2007:i:1:p:1-17. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Michael McNulty)
If references are entirely missing, you can add them using this form.