Optimal exercise of Russian options in the binomial model

R. W. Chen, Burton J Rosenberg

Research output: Chapter in Book/Report/Conference proceedingConference contribution

Abstract

The Russian option is a two-party contract which creates a liability for the option seller to pay the option buyer an amount equal to the maximum price attained by a security over a specific time period, discounted for the option's age. The Russian option was proposed by Shepp and Shiryaev. Kramkov and Shiryaev first examined the option in the binomial model. We improve upon their results and give a near-optimal algorithm for price determination. Specifically, we prove that the optimal exercising boundary is monotonic and give an O(N) dynamic programming algorithm to construct the boundary, where N is the option expiration time. The algorithm also computes the option's value at time zero in time O(N) and the value at all of the O(N3) nodes in the binomial model in time O(N2).

Original languageEnglish (US)
Title of host publicationWIT Transactions on Modelling and Simulation
Pages171-181
Number of pages11
Volume43
DOIs
StatePublished - 2006
Event2nd International Conference on Computational Finance and its Applications, COMPUTATIONAL FINANCE 2006, CF06 - London, United Kingdom
Duration: Jun 27 2006Jun 29 2006

Other

Other2nd International Conference on Computational Finance and its Applications, COMPUTATIONAL FINANCE 2006, CF06
CountryUnited Kingdom
CityLondon
Period6/27/066/29/06

Fingerprint

Binomial Model
Exercise
Dynamic programming
Statistical Models
Optimal Algorithm
Monotonic
Dynamic Programming
Zero
Vertex of a graph

Keywords

  • Binomial model
  • Dynamic programming
  • Russian option

ASJC Scopus subject areas

  • Computational Mathematics
  • Modeling and Simulation

Cite this

Chen, R. W., & Rosenberg, B. J. (2006). Optimal exercise of Russian options in the binomial model. In WIT Transactions on Modelling and Simulation (Vol. 43, pp. 171-181) https://doi.org/10.2495/CF060171

Optimal exercise of Russian options in the binomial model. / Chen, R. W.; Rosenberg, Burton J.

WIT Transactions on Modelling and Simulation. Vol. 43 2006. p. 171-181.

Research output: Chapter in Book/Report/Conference proceedingConference contribution

Chen, RW & Rosenberg, BJ 2006, Optimal exercise of Russian options in the binomial model. in WIT Transactions on Modelling and Simulation. vol. 43, pp. 171-181, 2nd International Conference on Computational Finance and its Applications, COMPUTATIONAL FINANCE 2006, CF06, London, United Kingdom, 6/27/06. https://doi.org/10.2495/CF060171
Chen RW, Rosenberg BJ. Optimal exercise of Russian options in the binomial model. In WIT Transactions on Modelling and Simulation. Vol. 43. 2006. p. 171-181 https://doi.org/10.2495/CF060171
Chen, R. W. ; Rosenberg, Burton J. / Optimal exercise of Russian options in the binomial model. WIT Transactions on Modelling and Simulation. Vol. 43 2006. pp. 171-181
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