The evaluation of barrier option prices under stochastic volatility

This paper considers the problem of numerically evaluating barrier option prices when the dynamics of the underlying are driven by stochastic volatility following the square root process of Heston (1993) [7]. We develop a method of lines approach to evaluate the price as well as the delta and gamma...

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Bibliographic Details
Published in:Computers & mathematics with applications (1987) 2012-09, Vol.64 (6), p.2034-2048
Main Authors: Chiarella, Carl, Kang, Boda, Meyer, Gunter H.
Format: Article
Language:English
Subjects:
Barrier option
Barriers
Continuously monitored
Discretely monitored
Free boundary problem
Method of lines
Stochastic volatility
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Summary:This paper considers the problem of numerically evaluating barrier option prices when the dynamics of the underlying are driven by stochastic volatility following the square root process of Heston (1993) [7]. We develop a method of lines approach to evaluate the price as well as the delta and gamma of the option. The method is able to efficiently handle both continuously monitored and discretely monitored barrier options and can also handle barrier options with early exercise features. In the latter case, we can calculate the early exercise boundary of an American barrier option in both the continuously and discretely monitored cases.
ISSN:0898-1221
1873-7668
DOI:10.1016/j.camwa.2012.03.103