Model uncertainty and the pricing of American options

Hobson, D.E. & Neuberger, A. (2017). Model uncertainty and the pricing of American options. Finance and Stochastics, 21(1), pp. 285-329. doi: 10.1007/s00780-016-0314-2

[img] Text - Accepted Version
Restricted to Repository staff only until 3 November 2017.

Download (299kB) | Request a copy

Abstract

The virtue of an American option is that it can be exercised at any time. This right is particularly valuable when there is model uncertainty. Yet almost all the extensive literature on American options assumes away model uncertainty. This paper quantifies the potential value of this flexibility by identifying the supremum on the price of an American option when we do not impose a model, but rather consider the class of all models which are consistent with a family of European call prices. The bound is enforced by a hedging strategy involving these call options which is robust to model error.

Item Type: Article
Additional Information: The final publication is available at Springer via http://dx.doi.org/10.1007/s00780-016-0314-2. © 2016, Springer-Verlag Berlin Heidelberg.
Uncontrolled Keywords: American option, Model-free pricing, Robust hedging, Model risk, Rational bounds
Subjects: H Social Sciences > HG Finance
Divisions: Cass Business School > Faculty of Finance
URI: http://openaccess.city.ac.uk/id/eprint/16285

Actions (login required)

View Item View Item

Downloads

Downloads per month over past year

View more statistics