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Robust Risk-Aware Option Hedging

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  • David Wu
  • Sebastian Jaimungal

Abstract

The objectives of option hedging/trading extend beyond mere protection against downside risks, with a desire to seek gains also driving agent's strategies. In this study, we showcase the potential of robust risk-aware reinforcement learning (RL) in mitigating the risks associated with path-dependent financial derivatives. We accomplish this by leveraging a policy gradient approach that optimises robust risk-aware performance criteria. We specifically apply this methodology to the hedging of barrier options, and highlight how the optimal hedging strategy undergoes distortions as the agent moves from being risk-averse to risk-seeking. As well as how the agent robustifies their strategy. We further investigate the performance of the hedge when the data generating process (DGP) varies from the training DGP, and demonstrate that the robust strategies outperform the non-robust ones.

Suggested Citation

  • David Wu & Sebastian Jaimungal, 2023. "Robust Risk-Aware Option Hedging," Papers 2303.15216, arXiv.org, revised Dec 2023.
  • Handle: RePEc:arx:papers:2303.15216
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    File URL: http://arxiv.org/pdf/2303.15216
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    References listed on IDEAS

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    1. Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-654, May-June.
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    Cited by:

    1. Parisa Davar & Fr'ed'eric Godin & Jose Garrido, 2024. "Catastrophic-risk-aware reinforcement learning with extreme-value-theory-based policy gradients," Papers 2406.15612, arXiv.org, revised Jun 2024.
    2. Xianhua Peng & Xiang Zhou & Bo Xiao & Yi Wu, 2024. "A Risk Sensitive Contract-unified Reinforcement Learning Approach for Option Hedging," Papers 2411.09659, arXiv.org.
    3. Pascal Franc{c}ois & Genevi`eve Gauthier & Fr'ed'eric Godin & Carlos Octavio P'erez Mendoza, 2024. "Is the difference between deep hedging and delta hedging a statistical arbitrage?," Papers 2407.14736, arXiv.org, revised Oct 2024.
    4. Pascal Franc{c}ois & Genevi`eve Gauthier & Fr'ed'eric Godin & Carlos Octavio P'erez Mendoza, 2024. "Enhancing Deep Hedging of Options with Implied Volatility Surface Feedback Information," Papers 2407.21138, arXiv.org.
    5. Anthony Coache & Sebastian Jaimungal, 2024. "Robust Reinforcement Learning with Dynamic Distortion Risk Measures," Papers 2409.10096, arXiv.org, revised Apr 2025.
    6. Yiheng Ding & Gangnan Yuan & Dewei Zuo & Ting Gao, 2025. "Hedging with Sparse Reward Reinforcement Learning," Papers 2503.04218, arXiv.org.
    7. Yannick Limmer & Blanka Horvath, 2023. "Robust Hedging GANs," Papers 2307.02310, arXiv.org.

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