Bayesian Pricing of the Optimal-Replication Strategy for European Option in the JD(M)J Model
Journal Title: Dynamic Econometric Models - Year 2012, Vol 12, Issue 1
Abstract
In incomplete markets replication strategies may not exist and pricing of derivatives is not an easy task. This paper presents an application of Bertsimas, Kogan and Lo’s algorithm of determining an optimal-replication strategy. In the Merton model the likelihood function is a product of a mixture of infinite number of components. In the paper this number is assumed to be equal to a fixed value M+1. To determine the optimal strategy, we should estimate unknown parameters. To this end we resort to Bayesian estimation techniques. The presented methodology is exemplified by an empirical research.
Authors and Affiliations
Maciej Kostrzewski
Keywords
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