A Forward Started Jump-Diffusion Model and Pricing of Cliquet Style Exotics
Gabriel G. Drimus
Institute of Banking and Finance, University of Zürich
October 30, 2008
Review of Derivatives Research, Vol. 13, No. 2, 2010
We present a two factor forward variance market model with jumps in returns and volatility. It allows the model user to directly control the behavior of future smiles and hence properly price forward smile risk of cliquet-style exotic products. The key idea, in order to achieve consistency between the dynamics of forward variance swaps and the underlying stock, is to adopt a forward starting model for the stock dynamics over each reset period of the tenor structure.
Number of Pages in PDF File: 17
Keywords: forward volatility smiles, forward skew, variance swaps, cliquets, exotic options
JEL Classification: G13
Date posted: April 4, 2009 ; Last revised: December 21, 2010
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