Option Pricing with Threshold Mean Reversion. Issue 2 (30th May 2016)

• Record Type: Journal Article
• Authors: Chi, Zeyu; Dong, Fangyuan; Wong, Hoi Ying
• Is Part Of: Journal of futures markets. Volume 37:Issue 2(2017)
• Page Start: 107
• Page End: 131
• Publication Date: 2016-05-30
• Subjects: Commodity exchanges -- Periodicals; Foreign exchange futures -- Periodicals; 332.632
• DOI: 10.1002/fut.21795
• Languages: English
• ISSNs: 0270-7314

Abstract

Abstract : Mean reversion and regime switching are well‐known features of commodity prices. Recent empirical research additionally documents the time variation of the mean reversion rate and volatility. This paper considers the option pricing framework for an underlying commodity price with mean reversion rate and volatility change according to a self‐exciting regime switching model. We offer empirical evidence for the proposed model and derive analytic pricing formulas for the European and barrier options. Numerical examples demonstrate the application and the ability of the proposed model in capturing volatility smile and regime‐switching in the mean reversion rate, simultaneously. © 2016 Wiley Periodicals, Inc. Jrl Fut Mark 37:107–131, 2017