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A simple iteration algorithm to price perpetual Bermudan options under the lognormal jump‐diffusion‐ruin process
Author(s) -
Chung SanLin,
Wang JrYan
Publication year - 2018
Publication title -
journal of futures markets
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.88
H-Index - 55
eISSN - 1096-9934
pISSN - 0270-7314
DOI - 10.1002/fut.21911
Subject(s) - jump diffusion , discounting , log normal distribution , equating , jump , diffusion , simple (philosophy) , boundary (topology) , process (computing) , diffusion process , trace (psycholinguistics) , mathematics , mathematical optimization , econometrics , computer science , mathematical economics , economics , mathematical analysis , statistics , finance , philosophy , physics , epistemology , quantum mechanics , rasch model , operating system , linguistics , thermodynamics , innovation diffusion , knowledge management
We propose an analytical‐form framework for pricing perpetual Bermudan options (PBOs) under the lognormal jump‐diffusion‐ruin model of Merton (1976). We first analytically derive the holding and early exercise values of PBOs. The optimal exercise boundary of the PBO, determined by equating the holding and early exercise values, is then solved using an iteration algorithm. We finally evaluate the PBO by taking the expectation of the option prices at the subsequent exercisable date and discounting it at the risk‐free rate. The numerical results indicate that our method is far more efficient than the competing methods in the literature for pricing PBOs.