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• W1980657129 abstract "Journal of Derivatives AccountingVol. 01, No. 02, pp. 171-186 (2004) ARTICLESNo AccessPRICING S&P 500 INDEX OPTIONS UNDER STOCHASTIC VOLATILITY WITH THE INDIRECT INFERENCE METHODJINGHONG SHU and JIN E. ZHANGJINGHONG SHUSchool of International Trade and Economics, University of International Business and Economics, Chao-Yang District, Beijing 100029, P.R. China Search for more papers by this author and JIN E. ZHANGDepartment of Finance, Hong Kong University of Science and Technology, Clear Water Bay, Kowloon, Hong Kong, ChinaCorresponding author. Search for more papers by this author https://doi.org/10.1142/S021986810400021XCited by:11 PreviousNext AboutSectionsPDF/EPUB ToolsAdd to favoritesDownload CitationsTrack CitationsRecommend to Library ShareShare onFacebookTwitterLinked InRedditEmail AbstractThis paper studies the price of S&P 500 index options by using Heston's (1993) stochastic volatility option pricing model. The Heston model is calibrated by a two-step estimation procedure to incorporate both the information from time-series asset returns and the information from cross-sectional option data. In the first step, the recently developed simulation-based indirect inference method is used to estimate the structural parameters that govern the asset return distribution; in the second step, the risk premium, λ, the spot variance, vt, and the correlation coefficient between the asset return and its volatility, ρ, are estimated by a nonlinear least-squares method that minimizes the sum of the squares of the error between the cross-sectional option price and the corresponding model price. The model performance is assessed by directly comparing the computed option model price with the market price. We find that both the Black–Scholes model and the Heston model overprice the out-of-the-money options and underprice the in-the-money options, but the degree of the bias is different. The Heston model significantly outperforms the Black–Scholes model in almost all moneyness-maturity groups. On average, the Heston model can reduce pricing errors by about 25%. However, pricing bias still exists in the Heston model. In particular, the Heston model always overprices short-term options, indicating that some other factors, such as the random jump, may also be needed to explain the option price.Keywords:Option pricingstochastic volatilityindirect inference method References Andersen, T. G., L. Benzoni and J. Lund (2000). Estimating jump-diffusions for equity returns. Working paper, Northwestern University . Google ScholarG. Bakshi, C. Cao and Z. Chen, Journal of Finance 52, 2003 (1997), DOI: 10.2307/2329472. Crossref, Google ScholarD. S. Bates, Review of Financial Studies 9, 69 (1996), DOI: 10.1093/rfs/9.1.69. Crossref, Google ScholarF. Black and M. Scholes, Journal of Political Economy 81, 637 (1973), DOI: 10.1086/260062. Crossref, Google ScholarB. Dumas, J. 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Crossref, Google Scholar FiguresReferencesRelatedDetailsCited By 11Analytically Pricing European Options under a New Two-Factor Heston Model with Regime SwitchingSha Lin and Xin-Jiang He1 May 2021 | Computational Economics, Vol. 59, No. 3Options (II): Continuous-Time Models, Black–Scholes and ExtensionsPatrice Poncet and Roland Portait8 November 2022A semianalytical formula for European options under a hybrid Heston–Cox–Ingersoll–Ross model with regime switchingXin‐Jiang He and Wenting Chen30 October 2019 | International Journal of Finance & Economics, Vol. 26, No. 1An iterative splitting method for pricing European options under the Heston model☆Hongshan Li and Zhongyi Huang1 Dec 2020 | Applied Mathematics and Computation, Vol. 387Calibration of stochastic volatility models: A Tikhonov regularization approachMin Dai, Ling Tang and Xingye Yue1 Mar 2016 | Journal of Economic Dynamics and Control, Vol. 64Valuation of Long-Maturity KIKO Options Under the Stochastic Volatility ModelJoon-Haeng Lee and Junmo Song25 August 2014 | Asia-Pacific Journal of Financial Studies, Vol. 43, No. 4Empirical competitiveness of deterministic option pricing models: Evidences from the recent waves of financial upheavals in IndiaVipul Kumar Singh and Pushkar Pachori20 September 2013 | Journal of Derivatives & Hedge Funds, Vol. 19, No. 2Nonparametric American option pricingJamie Alcock and Trent Carmichael1 January 2008 | Journal of Futures Markets, Vol. 28, No. 8Nonparametric American Option PricingJamie Alcock and Trent A. Carmichael1 Jan 2007 | SSRN Electronic Journal, Vol. 53VIX futuresJin E. Zhang and Yingzi Zhu1 January 2006 | Journal of Futures Markets, Vol. 26, No. 6Pricing Cac 40 Index Options with Stochastic VolatilitySofiane Aboura1 Jan 2003 | SSRN Electronic Journal, Vol. 52 Recommended Vol. 01, No. 02 Metrics History KeywordsOption pricingstochastic volatilityindirect inference methodPDF download" @default.
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