The Impact of Jumps on American Option Pricing: The S&P 100 Options Case.

49 Pages Posted: 25 Jan 2019

See all articles by Boda Kang

Boda Kang

AMP

Christina Sklibosios Nikitopoulos

University of Technology Sydney - Business School; Financial Research Network (FIRN)

Erik Schlögl

University of Technology Sydney (UTS), Quantitative Finance Research Centre; University of Cape Town (UCT) - The African Institute of Financial Markets and Risk Management; Faculty of Science, Department of Statistics, University of Johannesburg; Financial Research Network (FIRN)

Blessing Taruvinga

University of Technology Sydney (UTS), UTS Business School, Finance Discipline Group

Date Written: January 14, 2019

Abstract

This paper analyzes the importance of asset and volatility jumps in American option pricing models. Using the Heston (1993) stochastic volatility model with asset and volatility jumps and the Hull and White (1987) short rate model, American options are numerically evaluated by the Method of Lines. The calibration of these models to S&P 100 American options data reveals that jumps, especially asset jumps, play an important role in improving the models' ability to fit market data. Further, asset and volatility jumps tend to lift the free boundary, an effect that augments during volatile market conditions, while the additional volatility jumps marginally drift down the free boundary. As markets turn more volatile and exhibit jumps, American option holders become more prudent with their exercise decisions, especially as maturity of the options approaches.

Keywords: American options; S&P 100 options; Method of Lines; asset jumps; volatility jumps; stochastic interest rate

JEL Classification: C60, G13

Suggested Citation

Kang, Boda and Sklibosios Nikitopoulos, Christina and Schloegl, Erik and Taruvinga, Blessing, The Impact of Jumps on American Option Pricing: The S&P 100 Options Case. (January 14, 2019). Available at SSRN: https://ssrn.com/abstract=3315150 or http://dx.doi.org/10.2139/ssrn.3315150

Boda Kang

AMP ( email )

Sydney, NSW
Australia
0430976988 (Phone)
2154 (Fax)

Christina Sklibosios Nikitopoulos

University of Technology Sydney - Business School ( email )

15 Broadway, Ultimo
Sydney 2007, New South Wales
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

Erik Schloegl

University of Technology Sydney (UTS), Quantitative Finance Research Centre ( email )

Ultimo
PO Box 123
Sydney, NSW 2007
Australia
+61 2 9514 2535 (Phone)

HOME PAGE: http://www.schlogl.com

University of Cape Town (UCT) - The African Institute of Financial Markets and Risk Management ( email )

Leslie Commerce Building
Rondebosch
Cape Town, Western Cape 7700
South Africa

Faculty of Science, Department of Statistics, University of Johannesburg ( email )

Auckland Park, 2006
South Africa

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

Blessing Taruvinga (Contact Author)

University of Technology Sydney (UTS), UTS Business School, Finance Discipline Group ( email )

15 Broadway, Ultimo
PO Box 123
Sydney, NSW 2007
Australia

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