Valuation of n-fold Compound Barrier Options with Stochastic Interest Rate

• Main Authors: Li-chun Chen, 陳麗君
• Other Authors: Yu-hong Liu
• Format: Others
• Language: en_US
• Published: 2008
• Online Access: http://ndltd.ncl.edu.tw/handle/50812614160670741345

碩士 === 國立成功大學 === 財務金融研究所 === 96 === This paper considers the pricing of n-fold compound options with barriers. It can be applied to financial derivatives with credit risk and real option applications with right to abandon prior to maturity based on compound option theory. According to the correlation between barriers in intervals, there are two cases. One is the case of independent barriers, since the underlying value has uncorrelated default boundaries during different time intervals, while the other has correlation and results in a loosened default barrier stage by stage. Additionally, we develop a generalization of compound barrier options with stochastic interest rates to capture the interest rate risk. Finally, the characteristics of the model are illustrated with numerical examples. We find the following three results. First, the down-and-out barrier brings an early termination premium if the option is likely to be out-of-money in the future. Second, the loosened barrier in the case of dependent barriers has less probability to be knocked out as soon as passing through the earlier passage time. Third, the compound option with barriers is more difficult to hedge, while an increasing number of folds reduces the difficulty.