Closed-Form Approximations for Spread Option Prices and Greeks
Posted: 12 Feb 2008
Last revised: 12 Oct 2009
Bloomberg LP
Georgia Institute of Technology - The H. Milton Stewart School of Industrial & Systems Engineering (ISyE)
Georgia Institute of Technology
There are 2 versions of this paper
Date Written: 2008
Abstract
We develop a new closed-form approximation method for pricing spread options. Numerical analysis shows that our method is more accurate than existing analytical approximations. Our method is also extremely fast, with computing time more than two orders of magnitude shorter than one-dimensional numerical integration. We also develop closed-form approximations for the greeks of spread options. In addition, we analyze the price sensitivities of spread options and provide lower and upper bounds for digital spread options. Our method enables the accurate pricing of a bulk volume of spread options with different specifications in real time, which offers traders a potential edge in financial markets. The closed-form approximations of greeks serve as valuable tools in financial applications such as dynamic hedging and Value-at-Risk calculations.
Keywords: Spread options, exercise boundary, closed-form approximation
JEL Classification: C14, G12, G13
Suggested Citation:
Suggested Citation
Li, Minqiang and Deng, Shijie and Zhou, Jieyun, Closed-Form Approximations for Spread Option Prices and Greeks (2008). Journal of Derivatives, Vol. 15, No. 3, pp. 58-80, 2008. Available at SSRN: https://ssrn.com/abstract=1091166
