Monte Carlo Acceleration Algorithm of Pricing Switch Corridor Variance Swap

Abstract:

The pricing problem of Switch Corridor variance swap， a new variance product based on two underlying assets， is studied in this paper. This product was first launched for hedging cross-market volatility risk by Credit Suisse in 2012 and has gradually become one of the most popular new product series in the structured financial derivative market. The control variate Monte Carlo method is used to solve the problem in double Heston stochastic volatility models. Based on the affine structure theory， the closed-form solution in an auxiliary process was obtained， which constructs an efficient control variate. Further， three different kinds of volatilities of the auxiliary were adopted. By means of numerical experiments， the solution in the process with dynamic volatility is proved to have an extraordinary effect on acceleration. The algorithm can also be used to solve the calculation problem of other high-dimensional variance products in various stochastic volatility models.

Key words:pricing of financial derivatives;Switch Corridor variance swap;Heston model;control variate;Monte Carlo method;affine diffusion processes