Multi-Asset Spread Option Pricing and Hedging
Quantitative Finance, Vol. 10, No. 3, pp. 305–324, 2010
Posted: 13 Mar 2010
Date Written: March 11, 2010
We provide two new closed-form approximation methods for pricing spread options on a basket of risky assets: the extended Kirk approximation and the second-order boundary approximation. The latter method generalizes the results in Li et al. [J. Deriv., 2008, 15, 58–80] to spread options on an arbitrary number of assets. Numerical analysis shows that while the latter method is more accurate than the former, both methods are extremely fast and accurate. Closed-form approximations for important Greeks are also derived. Our approximation methods enable the accurate pricing of a bulk volume of spread options on a large number of assets in real time, which offers traders a potential edge in a dynamic market environment.
Keywords: Multi-asset spread options, Second-order boundary approximation, Closed-form approximation
JEL Classification: G12
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