Options, Futures, and Other Derivatives, Ninth Edition

Chapter 27 More on Models and Numerical Procedures

Up to now the models we have used to value options have been based on the geometric Brownian motion model of asset price behavior that underlies the Black–Scholes–Merton formulas and the numerical procedures we have used have been relatively straightforward. In this chapter we introduce a number of new models and explain how the numerical procedures can be adapted to cope with particular situations.

Chapter 20 explained how traders overcome the weaknesses in the geometric Brownian motion model by using volatility surfaces. A volatility surface determines an appropriate volatility to substitute into Black–Scholes–Merton when pricing plain vanilla options. Unfortunately it says little about ...