Uncertain Correlation Model
Wilmott Journal, Vol. 2, December 2010
46 Pages Posted: 14 Jul 2009 Last revised: 15 Mar 2012
Date Written: January 1, 2008
The correlation is a big modelling problem, "One of the most interesting in the Equity World". In the last decade, correlation products became very popular and attractive. The demand for a number of exotic products like dispersion trades, worst of, rainbows, correlation swaps, corridor option on basket have increased. Recently, as the result of financial crisis, correlation risk became very significant. in 2007, indeed most of the exotic equity portfolios were mismarked because of this risk and, therefore, correlation started to be considered as central parameter in valuation problem. We present the Uncertain Correlation Model (UCM) that takes into account the correlation risk in equity derivatives modelling. We consider two versions of this model and we discuss its impact on pricing exotics.
Keywords: correlation, equity, uncertain, stochastic, UCM
JEL Classification: B23, C15, C61, G13
Suggested Citation: Suggested Citation