The Calibration of Some Stochastic Volatility Models Used in Mathematical Finance

DOI: 10.4236/ojapps.2014.42004   PDF   HTML     5,591 Downloads   8,376 Views   Citations


Stochastic volatility models are used in mathematical finance to describe the dynamics of asset prices. In these models, the asset price is modeled as a stochastic process depending on time implicitly defined by a stochastic differential Equation. The volatility of the asset price itself is modeled as a stochastic process depending on time whose dynamics is described by a stochastic differential Equation. The stochastic differential Equations for the asset price and for the volatility are coupled and together with the necessary initial conditions and correlation assumptions constitute the model. Note that the stochastic volatility is not observable in the financial markets. In order to use these models, for example, to evaluate prices of derivatives on the asset or to forecast asset prices, it is necessary to calibrate them. That is, it is necessary to estimate starting from a set of data the values of the initial volatility and of the unknown parameters that appear in the asset price/volatility dynamic Equations. These data usually are observations of the asset prices and/or of the prices of derivatives on the asset at some known times. We analyze some stochastic volatility models summarizing merits and weaknesses of each of them. We point out that these models are examples of stochastic state space models and present the main techniques used to calibrate them. A calibration problem for the Heston model is solved using the maximum likelihood method. Some numerical experiments about the calibration of the Heston model involving synthetic and real data are presented.

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L. Fatone, F. Mariani, M. Recchioni and F. Zirilli, "The Calibration of Some Stochastic Volatility Models Used in Mathematical Finance," Open Journal of Applied Sciences, Vol. 4 No. 2, 2014, pp. 23-33. doi: 10.4236/ojapps.2014.42004.

Conflicts of Interest

The authors declare no conflicts of interest.


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