FX barriers with smile dynamics

Glyn Baker, Reimer Beneder, A. Zilber

    Research output: Contribution to conferencePaperAcademic

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    Abstract

    Our mandate in this work has been to isolate the features of smile consistent models that are most relevant to the pricing of barrier options. We consider the two classical approaches of stochastic and (parametric) local volatility. Although neither has been particularly successful in practice their differing qualitative features serve our exposition. By constructing approximate static hedges we are able to closely mimic their prices. The only information we require from the models, other than the initial vanilla market to which they are calibrated, is their conditional forward smile along the barrier. This strongly supports the fact that realistic forward smile dynamics are of paramount importance when assessing a model to be used in pricing barrier options. (joint work with Glyn Baker and Reimer Beneder)
    Original languageUndefined
    Number of pages22
    Publication statusPublished - 2004
    Event4th Winter School on Financial Mathematics - Lunteren, the Netherlands
    Duration: 24 Jan 200526 Jan 2005

    Other

    Other4th Winter School on Financial Mathematics
    Period24/01/0526/01/05
    OtherJanuary 24-26, 2005

    Keywords

    • IR-59732

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