(1) Faculty of Business Administration, Hosei University, 2-17-1 Fujimi, Chiyoda-ku, Tokyo, 102-8160, JAPAN
Abstract:
Cochrane and Sa'a-Requejo (2000, Journal of Political Economy) proposed the good-deal price bounds for the European call option on an event that is not a traded asset, but is correlated with a traded asset that can be used as an approximate hedge. One remarkable feature of their model is that the return on an event process explicitly appears in the option price bounds formula, which offered a contrast with the standard option pricing model. We show that the good-deal option price bounds on a non-traded event are obtained as a closed-form formula, when the return on an event is governed by a mean reverting process.
