High-order Approximations to Call Option Prices in the Heston Model

Archil Gulisashvili,Marc Lagunas-Merino,Raul Merino,Josep Vives

Journal of Computational Finance（2019）SCI 4区

Cited 3|Views1

Abstract

In the present paper, a decomposition formula for the call price due to Alos is transformed into a Taylor-type formula containing an infinite series with stochastic terms. The new decomposition may be considered as an alternative to the decomposition of the call price found in a recent paper by Al`os, Gatheral and Rodoicic. We use the new decomposition to obtain various approximations to the call price in the Heston model with sharper estimates of the error term than in previously known approximations. One of the formulas obtained in the present paper has five significant terms and an error estimate of the form O(nu(3)vertical bar rho vertical bar + nu)), where nu and rho are the volatility-of-volatility and the correlation in the Heston model, respectively. Another approximation formula contains seven more terms and the error estimate is of the form O(nu(4)(1 + vertical bar rho vertical bar)). For the uncorrelated Heston model (rho = 0), we obtain a

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Key words

computational finance,Heston model,option pricing,price approximations,stochastic volatility models,vanilla options

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