2012/03/27 by Jan Baldeaux, Baldeaux, Jan, Alexander Badran +1 · 1 citation
Economics, Econometrics and Finance · #Capital Investment and Risk Analysis #FOS: Economics and business #Pricing of Securities (q-fin.PR) #Stochastic processes and financial applications
paper · pdf · doi:10.48550/arxiv.1203.5903
openalex publication_date 2012/03/27 · openalex created_date 2022/09/15 · openalex updated_date 2026/07/28
The paper demonstrates that a pure-diffusion 3/2 model is able to capture the\nobserved upward-sloping implied volatility skew in VIX options. This\nobservation contradicts a common perception in the literature that jumps are\nrequired for the consistent modelling of equity and VIX derivatives. The\npure-diffusion model, however, struggles to reproduce the smile in the implied\nvolatilities of short-term index options. One remedy to this problem is to\naugment the model by introducing jumps in the index. The resulting 3/2 plus\njumps model turns out to be as tractable as its pure-diffusion counterpart when\nit comes to pricing equity, realized variance and VIX derivatives, but\naccurately captures the smile in implied volatilities of short-term index\noptions.\n