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Most OTC option textbooks are about exotic options. I'm curious how sell-side price and hedge OTC vanilla options e.g. European option. What models do they use? How to forecast volatility (using GARCH?)? How to do model calibration and how to (delta and vega) hedge?

I appreciate if you could share some references as well. Thanks!!!

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  • $\begingroup$ Sell-side vanilla options (defining the vol surface) are calibrated to market prices, e.g. ATM staddles or ad hoc OTM options to calibrate skews and then unknown parameters are interpolated or extrapolated from there, in order to minimise otherwise opportunistic systematic arbitrage by buy side. Prices are benchmarked by managers and product control departments against broker screens or external services (possibly TOTEM?) $\endgroup$ – Attack68 Apr 19 '18 at 20:58

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