Methods and Applications of Analysis
- Methods Appl. Anal.
- Volume 11, Number 4 (2004), 533-556.
Volatility calibration with American options
In this paper, we present two methods in order to calibrate the local volatility with American put options. Both calibration methods use a least-square formulation and a descent algorithm. Pricing is done by solving parabolic variational inequalities, for which solution procedures by active set methods are discussed.
The first strategy consists in computing the optimality conditions and the descent direction needed by the optimization loop. This approach has been implemented both at the continuous and discrete levels. It requires a careful analysis of the underlying variational inequalities and of their discrete counterparts. In the numerical example presented here (American options on the FTSE index), the squared volatility is parameterized by a bicubic spline.
In the second approach, which works in low dimension, the descent directions are computed with Automatic Differentiation of computer programs implemented in C++.
Methods Appl. Anal., Volume 11, Number 4 (2004), 533-556.
First available in Project Euclid: 13 April 2006
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Mathematical Reviews number (MathSciNet)
Zentralblatt MATH identifier
Secondary: 35R60: Partial differential equations with randomness, stochastic partial differential equations [See also 60H15] 60H10: Stochastic ordinary differential equations [See also 34F05] 60H30: Applications of stochastic analysis (to PDE, etc.)
Achdou, Yves; Indragoby, Govindaraj; Pironneau, Olivier. Volatility calibration with American options. Methods Appl. Anal. 11 (2004), no. 4, 533--556. https://projecteuclid.org/euclid.maa/1144939946