Semistatic hedging and pricing American floating strike lookback options |
| |
| Authors: | San-Lin Chung Yi-Ta Huang Pai-Ta Shih Jr-Yan Wang |
| |
| Institution: | 1. Department of Finance, National Taiwan University, Taipei, Taiwan;2. Department of International Business, National Taiwan University, Taipei, Taiwan |
| |
| Abstract: | We price an American floating strike lookback option under the Black–Scholes model with a hypothetic static hedging portfolio (HSHP) composed of nontradable European options. Our approach is more efficient than the tree methods because recalculating the option prices is much quicker. Applying put–call duality to an HSHP yields a tradable semistatic hedging portfolio (SSHP). Numerical results indicate that an SSHP has better hedging performance than a delta-hedged portfolio. Finally, we investigate the model risk for SSHP under a stochastic volatility assumption and find that the model risk is related to the correlation between asset price and volatility. |
| |
| Keywords: | American floating strike lookback option dynamic hedging model risk put–call duality semistatic hedging stochastic volatility model |
|
