Valuation of path-dependent American options using a Monte Carlo approach

1998/01/12 by H. Sorge, Sorge, H.
Economics, Econometrics and Finance · Social Sciences · #Stochastic processes and financial applications #Capital Investment and Risk Analysis #Insurance, Mortality, Demography, Risk Management

paper · pdf · doi:10.48550/arxiv.math/9801057

Abstract

It is shown how to obtain accurate values for American options using Monte Carlo simulation. The main feature of the novel algorithm consists of tracking the boundary between exercise and hold regions via optimization of a certain payoff function. We compare estimates from simulation for some types of claims with results from binomial tree calculations and find very good agreement. The novel method allows to calculate so far untractable path-dependent option values.

Related

• Number of paths versus number of basis functions in American option pricing
• Monte Carlo Methods and Path-Generation techniques for Pricing Multi-asset Path-dependent Options
• Pricing American Options by Exercise Rate Optimization
• Monte-Carlo methods for the pricing of American options: a semilinear BSDE point of view
• American Options Pricing under Stochastic Volatility: Approximation of the Early Exercise Surface and Monte Carlo Simulations