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If you think the stock is going to continue going up, just wait. If you think the stock has reached its peak, then short it in the open market. If the shorted stock continues to climb, you can always cover with your call option. If however the stock falls below your strike price, then let the option expire and cover at the market price. It's this very ...

5

I guess if your American-style option is in no-exercise region, you can use exactly the same bisection method as for European option.The implied volatility will be different, but the method is still the same. See for example, here, chapter 9.3.3. The applicability of bisection method for American-style options is discussed in the book "Binomial Models in ...

5

Standard Options on CBOE expire on the Saturday following the third Friday of a month. Additionally to that there exist weekly options. That's why you see these two series of options.

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A stochastic volatility model for a single risky asset can't be complete because you have two sources of randomness. But you can easily make it complete by adding a derivative whose value depends on the volatility. For example, if you add a variance swap in the Heston model then it becomes complete. This allows you to calibrate the model. But your ...

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As OracleOfNJ said, there is never any advantage to early exercise of an American style call option unless the underlying asset offers some advantage, usually dividends, which does not apply to interest rate futures. American put options were among the biggest open problems in finance until people learned how to treat them as free boundary problems. In ...

4

For a vanilla option, this is a very slow way to get the boundary, and it's somewhat unreliable for any option. In either a more standard grid scheme or in a LS solver, you obtain the boundary by finding two nodes such that one of them has option value equal to early exercise value, and its neighbor has option value above early exercise value. This gives ...

3

For a standard American exercise option expiring at $T>0$, price is still monotically increasing in volatility under the Black-Scholes model (though obviously it is not strictly monotonic, due to early exercise rendering price insensitive to volatility in some regions of parameter space). To see this, you can use one of three techniques: Investigate ...

3

You compare apples and oranges here. You can't possibly compare the profit generated involving S(t) on one side and S(T) on the other side. at time t you do not know what the stock will be worth at time T. Merton made the statement in the context of deciding whether to exercise the call option at any time before expiration OR to simply sell the call ...

2

Bisection method is rather fast but it has only linear convergence. Newton's method offers quadratic convergence but it requires the knowledge of Vega (which AFAIK is only accessible numerically with binomial model). However, the convergence of Newton's method can suffer from poor initial approximation. In this case Brent's method tends to perform better. ...

2

If you can dynamically hedge then you can monetize the value of your option without prematurely exercising it. Before writing about Randomness and Black Swans, Taleb wrote a book on the topic. The short version of the story is find the DV01 of your position, and take an opposite position with the same DV01. (& if you want, line up the rest of the ...

2

Because if you sell, you will get a higher value than 20USD per share. You can think of the reason behind this added value is that having a deep ITM option is better than having a stock: your downside is limited. Therefore your option is worth more on the market than it's exercise value. This is why you are better off by selling it in your case (if you know ...

2

There are several ways to choose a particular EMM. I believe that the most popular approach is to use a "distance" between $\mathbb{P}$ and $\mathbb{Q}$. Most papers use a minimal entropy approach(for example, Fujiwara and Miyahara, Esche and Schweizer, or Hubalek and Sgarra) or a relative q-entropy approach (for example, Jeanblanc, Klöppel, & Miyahara) ...

2

Hum, that's one of the most important questions in financial engineering, that why no answer is proposed. If you have available data as option prices, you may calibrate a parametric EMM but nothing can tell that it's the best EMM (cause there is no best EMM). So make a choice and defend your choice by saying 'it's simple and allows beautiful result' like ...

2

Generally speaking, if you have two or three sources of noise, you are still going to be much better off pricing American options on a lattice than via LSMC. Too often, LSMC becomes the refuge of academics lacking patience to learn proper lattice techniques. Now, you can frequently reduce the difficulty of pricing American options by considering the ...

1

Regarding your second question: one possible approach is to reduce the instrument you are trying to value to something simpler, for which an analytical solution are an alternative methodology does exist. You can then vary parameters and check that the valuation is behaving as expected. If you are using simulations because your price process is more ...

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I guess that, in your model, the stock does not pay dividends. The price of an European Call option written for a stock that does not pay dividends is always higher than its intrinsic value. Therefore, in that case, Prices of European and American Call options are equal. Note that this is not true for Put options, since Put values are short interest ...

1

So to expand a bit further on what Brian had mentioned, you're going to get a different vol surface given american vs european. So this is something Brian already pointed out, but one very simple and practical way that you can prove this to yourself is just to think about how the implied forwards are generated. In the European case we use the entire strip ...

1

With respect to your first question: Yes. The regression has to determine the conditional expectation of the continuation value, i.e., the (discounted) value of the future cash flows including the exercise criteria(s) you have determined for the remaining future exercise times, conditional to the assumption that you did not exercise at or prior the current ...

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A logical way of answering this question is proof by contradiction. First note that if it is not optimal to exercise an american option prior to expiry, then the option should have the same value as the european option. So assume that it is not optimal to exercise the option prior to expiry, i.e. assume that the american option has the same value as the ...

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They'll be correlated, and generally close to one another, but rarely identical. In fact differences of 2 points in implied vol are common. The reason for the differences comes down to the portfolio construction and tracking error of the SPY ETF. While generally quite low over a long period of time, the tracking error on a 1-day or less basis can be ...

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