Complex Barrier Options

J. OF DERIVATIVES, Fall 1996

Posted: 17 Apr 1998

See all articles by Terry H. F. Cheuk

Terry H. F. Cheuk

The University of Hong Kong - School of Business

Ton Vorst

VU University Amsterdam - Department of Finance and Financial Sector Management; Tinbergen Institute

Abstract

This article develops a new trinomial tree model for barrier options. It is well-known that for barrier options, the positions of nodes in the tree with respect to the barrier value are critical. We use a time-dependent shift to position the tree optimally with respect to the barrier. The model is very flexible and can be used to price options with time-varying barrier structures. It can be used to price knock-in and knock-out options based on either one or two underlying assets, including those with time-varying barriers - single or double. Traditional lattice models all have difficulties when the underlying asset price is very close to the barrier. This model does not suffer from that limitation. Also, in many applications, the barrier condition is based on the daily or weekly fixings. A simple solution for the discrete-time barrier observation is advanced, which enables us to uncover the price differences among barrier options with different observation frequencies.

JEL Classification: 50

Suggested Citation

Cheuk, Terry H. F. and Vorst, Ton A.C.F., Complex Barrier Options. J. OF DERIVATIVES, Fall 1996, Available at SSRN: https://ssrn.com/abstract=7693

Terry H. F. Cheuk (Contact Author)

The University of Hong Kong - School of Business ( email )

Pokfulam Road
Hong Kong
Hong Kong

Ton A.C.F. Vorst

VU University Amsterdam - Department of Finance and Financial Sector Management ( email )

De Boelelaan 1105
NL-1081HV Amsterdam
Netherlands

Tinbergen Institute ( email )

Gustav Mahlerplein 117
Amsterdam, 1082 MS
Netherlands

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