English, Article edition: ON THE ASYMPTOTICS OF FAST MEAN-REVERSION STOCHASTIC VOLATILITY MODELS MAX O. SOUZA; JORGE P. ZUBELLI

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Physical Description
  • article
Language
  • English

Edition details

Title
  • ON THE ASYMPTOTICS OF FAST MEAN-REVERSION STOCHASTIC VOLATILITY MODELS
Author
  • MAX O. SOUZA
  • JORGE P. ZUBELLI
Physical Description
  • article
Notes
  • We consider the asymptotic behavior of options under stochastic volatility models for which the volatility process fluctuates on a much faster time scale than that defined by the riskless interest rate. We identify the distinguished asymptotic limits and, in contrast with previous studies, we deal with small volatility-variance (vol-vol) regimes. We derive the corresponding asymptotic formulae for option prices, and find that the first order correction displays a dependence on the hidden state and a non-diffusive terminal layer. Furthermore, this correction cannot be obtained as the small variance limit of the previous calculations. Our analysis also includes the behavior of the asymptotic expansion, when the hidden state is far from the mean. In this case, under suitable hypothesis, we show that the solution behaves as a constant volatility BlackâScholes model to all orders. In addition, we derive an asymptotic expansion for the implied volatility that is uniform in time. It turns out that the fast scale plays an important role in such uniformity. The theory thus obtained yields a more complete picture of the different asymptotics involved under stochastic volatility. It also clarifies the remarkable independence on the state of the volatility in the correction term obtained by previous authors.
  • Stochastic volatility models, asymptotics, vol-vol
  • RePEc:wsi:ijtafx:v:10:y:2007:i:05:p:817-835
Language
  • English
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