Closed-Form Approximations for Spread Option Prices and Greeks

39 Pages Posted: 20 Dec 2006 Last revised: 8 Jun 2010

See all articles by Minqiang Li

Minqiang Li

Bloomberg LP

Shijie Deng

Georgia Institute of Technology - The H. Milton Stewart School of Industrial & Systems Engineering (ISyE)

Jieyun Zhou

Georgia Institute of Technology

Multiple version iconThere are 2 versions of this paper

Date Written: November 1, 2006

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 proximations 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. The availability of a closed-form formula for spread options also helps us understand and design real and financial contracts with embedded spread-option-like features.

Keywords: Spread option, Closed-form approximation, Greeks

JEL Classification: G12, G13, C63

Suggested Citation

Li, Minqiang and Deng, Shijie and Zhou, Jieyun, Closed-Form Approximations for Spread Option Prices and Greeks (November 1, 2006). Available at SSRN: https://ssrn.com/abstract=952747 or http://dx.doi.org/10.2139/ssrn.952747

Minqiang Li (Contact Author)

Bloomberg LP ( email )

731 Lexington Avenue
New York, NY 10022
United States

Shijie Deng

Georgia Institute of Technology - The H. Milton Stewart School of Industrial & Systems Engineering (ISyE) ( email )

765 Ferst Drive
Atlanta, GA 30332-0205
United States

Jieyun Zhou

Georgia Institute of Technology ( email )

Atlanta, GA 30332
United States

Register to save articles to
your library

Register

Paper statistics

Downloads
2,947
rank
3,429
Abstract Views
7,943
PlumX