Option Pricing Under a Double Exponential Jump Diffusion Model

Authors:
S. G. Kou;Hui Wang
Affiliations:
Department of IEOR, Columbia University, 312 Mudd Building, New York, New York 10027;Division of Applied Mathematics, Brown University, Box F, Providence, Rhode Island 02912
Venue:
Management Science
Year:
2004

Citing 6
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Abstract

Analytical tractability is one of the challenges faced by many alternative models that try to generalize the Black-Scholes option pricing model to incorporate more empirical features. The aim of this paper is to extend the analytical tractability of the Black-Scholes model to alternative models with jumps. We demonstrate that a double exponential jump diffusion model can lead to an analytic approximation for finite-horizon American options (by extending the Barone-Adesi and Whaley method) and analytical solutions for popular path-dependent options (such as lookback, barrier, and perpetual American options). Numerical examples indicate that the formulae are easy to implement, and are accurate.