Change-of-measure in the square-root process
by Stephen Chin
Abstract: We demonstrate how the square-root process can be used to
compute vanilla options in stochastic volatility models. Our focus is on an explicit change-of-measure formula which can be interpreted as
the absolute continuity relations between squared Bessel processes with different dimensions. We also examine the numerical behaviour of the Radon-Nikodym derivative.
Then, we propose a simple and accurate method to simulate European option prices. Numerical results show that the change-of-measure (CM)
and Andersen's quadratic exponential (QE) scheme perform very closely.
For More Information: contact: Daniel Dufresne. Email: firstname.lastname@example.org