IDEAS home Printed from https://ideas.repec.org/a/taf/quantf/v4y2004i5p607-618.html
   My bibliography  Save this article

Option pricing and hedging with minimum local expected shortfall

Author

Listed:
  • Benoit Pochart
  • Jean-Philippe Bouchaud

Abstract

We propose a versatile Monte-Carlo method for pricing and hedging options when the market is incomplete, for an arbitrary risk critcrion (chosen here to be the expected shortfall), for a large class of stochastic processes, and in the presence of transaction costs. We illustrate the method on plain vanilla options when the price returns follow a Student -t distribution. We show that in the presence of fat-tails, our strategy allows us to significantly reduce extreme risks, and generically loads to low Gamma hedging. He also find that using an asymmetric risk function generates option skews, even when the underlying dynamics is unskewed. Finally, we show the proper accounting of transaction costs leads to an optimal strategy with reduced Gamma, which is found to outperform Leland's hedge.

Suggested Citation

  • Benoit Pochart & Jean-Philippe Bouchaud, 2004. "Option pricing and hedging with minimum local expected shortfall," Quantitative Finance, Taylor & Francis Journals, vol. 4(5), pages 607-618.
    • Handle: RePEc:taf:quantf:v:4:y:2004:i:5:p:607-618
    DOI: 10.1080/14697680400000042
    as

    Download full text from publisher

    File URL: http://www.tandfonline.com/doi/abs/10.1080/14697680400000042
    Download Restriction: Access to full text is restricted to subscribers.
    File URL: https://libkey.io/10.1080/14697680400000042?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Lixin Wu & Min Dai, 2009. "Pricing jump risk with utility indifference," Quantitative Finance, Taylor & Francis Journals, vol. 9(2), pages 177-186.
    2. Ramos, Antônio M.T. & Carvalho, J.A. & Vasconcelos, G.L., 2016. "Exponential model for option prices: Application to the Brazilian market," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 445(C), pages 161-168.
    3. Emmanuel Gobet & Isaque Pimentel & Xavier Warin, 2018. "Option valuation and hedging using asymmetric risk function: asymptotic optimality through fully nonlinear Partial Differential Equations," Working Papers hal-01761234, HAL.
    4. Ludovic Gouden`ege & Andrea Molent & Antonino Zanette, 2023. "Backward Hedging for American Options with Transaction Costs," Papers 2305.06805, arXiv.org, revised Jun 2023.
    5. Emmanuel Gobet & Isaque Pimentel & Xavier Warin, 2020. "Option valuation and hedging using an asymmetric risk function: asymptotic optimality through fully nonlinear partial differential equations," Finance and Stochastics, Springer, vol. 24(3), pages 633-675, July.

    More about this item

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:taf:quantf:v:4:y:2004:i:5:p:607-618. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no bibliographic references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Chris Longhurst (email available below). General contact details of provider: http://www.tandfonline.com/RQUF20 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.