The Correction of Multiscale Stochastic Volatility to American Put Option: An Asymptotic Approximation and Finite Difference Approach

• Main Authors: Yanli Zhou, Shican Liu, Shuang Li, Xiangyu Ge
• Format: Article
• Language: English
• Published: Hindawi Limited 2021-01-01
• Series: Journal of Function Spaces
• Online Access: http://dx.doi.org/10.1155/2021/1217665

It has been found that the surface of implied volatility has appeared in financial market embrace volatility “Smile” and volatility “Smirk” through the long-term observation. Compared to the conventional Black-Scholes option pricing models, it has been proved to provide more accurate results by stochastic volatility model in terms of the implied volatility, while the classic stochastic volatility model fails to capture the term structure phenomenon of volatility “Smirk.” More attempts have been made to correct for American put option price with incorporating a fast-scale stochastic volatility and a slow-scale stochastic volatility in this paper. Given that the combination in the process of multiscale volatility may lead to a high-dimensional differential equation, an asymptotic approximation method is employed to reduce the dimension in this paper. The numerical results of finite difference show that the multiscale volatility model can offer accurate explanations of the behavior of American put option price.