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A new exact solution for pricing European options in a two-state regime-switching economy
Faculty of Informatics - Papers (Archive)
  • Song-Ping Zhu, University of Wollongong
  • Alexander Badran, University Of Wollongong
  • Xiaoping Lu, University of Wollongong
RIS ID
67554
Publication Date
1-1-2012
Publication Details

Zhu, S., Badran, A. & Lu, X. (2012). A new exact solution for pricing European options in a two-state regime-switching economy. Computers and Mathematics with Applications, 64 (8), 2744-2755.

Abstract

In this study, we derive a new exact solution for pricing European options in a two-state regime-switching economy. Two coupled Black-Scholes partial differential equations (PDEs) under the regime switching are solved using the Fourier Transform method. A key feature of the newly-derived solution is its simplicity in the form of a single integral with a real integrand, which leads to great computational efficiency in comparison with other closed-form solutions previously presented in the literature. Numerical examples are provided to demonstrate some interesting results obtained from our pricing formula.

Citation Information
Song-Ping Zhu, Alexander Badran and Xiaoping Lu. "A new exact solution for pricing European options in a two-state regime-switching economy" (2012) p. 2744 - 2755
Available at: http://works.bepress.com/xlu/1/