Pricing and disentanglement of American puts in the hyper-exponential jump-diffusion model |
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| Institution: | 1. Northeastern University, Boston, MA02186, USA;2. University of California,Riverside, CA92508, USA;3. Securities and Exchange Commission, 44 Montgomery Street, San Francisco, CA94104, USA;1. School of Business, Management and Economics, University of Sussex, Falmer, East Sussex BN1 9QH, UK;2. Department of Finance, School of Business and Economics, Maastricht University, Tongersestraat 53, 6211 LM Maastricht, The Netherlands;3. Finance Department, Vrije Universiteit Amsterdam and Tinbergen Institute, De Boelelaan 1105, NL-1081 HV Amsterdam, The Netherlands |
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| Abstract: | We analyze American put options in a hyper-exponential jump-diffusion model. Our contribution is threefold. Firstly, by following a maturity randomization approach, we solve the partial integro-differential equation and obtain a tight lower bound for the American option price. Secondly, our method allows to disentangle the contributions of jumps and diffusion for the early exercise premium. Finally, using American-style options on the S&P 100 index from January 2007 until December 2012, we estimate various hyper-exponential specifications and investigate the implications for option pricing and jump-diffusion disentanglement. We find that jump risk accounts for a large part of the early exercise premium. |
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