Asymptotic analysis of option pricing in a Markov modulated market |
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| Authors: | Arnab Basu Mrinal K Ghosh |
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| Institution: | aQuantitative Methods and Information Systems Area, Indian Institute of Management Bangalore, Bangalore- 560076, India;bDepartment of Mathematics, Indian Institute of Science, Bangalore-560012, India |
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| Abstract: | We address asymptotic analysis of option pricing in a regime switching market where the risk free interest rate, growth rate and the volatility of the stocks depend on a finite state Markov chain. We study two variations of the chain namely, when the chain is moving very fast compared to the underlying asset price and when it is moving very slow. Using quadratic hedging and asymptotic expansion, we derive corrections on the locally risk minimizing option price. |
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| Keywords: | Regime switching market Minimal martingale measure Risk minimizing option price Asymptotic expansion |
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