Option pricing and hedging under a stochastic volatility Lévy process model
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- Kim, Y.S., Fabozzi, F.J., Lin, Z. et al. Rev Deriv Res (2012) 15: 81. doi:10.1007/s11147-011-9070-9
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In this paper, we discuss a stochastic volatility model with a Lévy driving process and then apply the model to option pricing and hedging. The stochastic volatility in our model is defined by the continuous Markov chain. The risk-neutral measure is obtained by applying the Esscher transform. The option price using this model is computed by the Fourier transform method. We obtain the closed-form solution for the hedge ratio by applying locally risk-minimizing hedging.