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| Author: | Carr, P. Wu, L. |
| Title: | Time-changed Levy processes and option pricing |
| Journal: | Journal of Financial Economics
2004 : JAN, VOL. 71:1, p. 113-141 |
| Index terms: | Option prices Pricing |
| Language: | eng |
| Abstract: | The classic Black-Scholes option pricing model assumes that returns follow Brownian motion, but return processes differ from this benchmark in at least three important ways. Firstly, asset pricing jump, leading to non-normal return innovations. Secondly, return volatilities vary stochastically over time. Thirdly, returns and their volatilities are correlated, often negatively for equities. Time-changed Lévy processes can simultaneously address these three issues. It is shown that our framework encompasses almost all of the models proposed in the option pricing literature, and it is straightforward to select and test a particular option pricing model through the use of characteristic function technology. |
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