APPLICATION OF A HIGH-ORDER ASYMPTOTIC EXPANSION SCHEME TO LONG-TERM CURRENCY OPTIONS

Recently, not only academic researchers but also many practitioners have used the methodology so-called ``an asymptotic expansion method" in their proposed techniques for a variety of financial issues. e.g. pricing or hedging complex derivatives under high-dimensional stochastic environments. This methodology is mathematically justified by Watanabe theory (Watanabe [1987], Yoshida [1992a,b]) in Malliavin calculus and essentially based on the framework initiated by Kunitomo and Takahashi [2003], Takahashi [1995,1999] in a financial context. In practical applications, it is desirable to investigate the accuracy and stability of the method especially with expansion up to high orders in situations where the underlying processes are highly volatile as seen in recent financial markets. After Takahashi [1995,1999] and Takahashi and Takehara [2007] had provided explicit formulas for the expansion up to the third order, Takahashi, Takehara and Toda [2009] develops general computation schemes and formulas for an arbitrary-order expansion under general diffusion-type stochastic environments. In this paper, we describe them in a simple setting to illustrate thier key idea, and to demonstrate their effectiveness apply them to pricing long-term currency options under a cross-currency Libor market model and a general stochastic volatility of a spot exchange rate with maturities up to twenty years.

A General Computation Scheme for a High-Order Asymptotic Expansion Method

This paper presents a new computational scheme for an asymptotic expansion method of an arbitrary order. The asymptotic expansion method in finance initiated by Kunitomo and Takahashi [1992], Yoshida [1992b] and Takahashi [1995], [1999] is a widely applicable methodology for an analytic approximation of expectation of a certain functional of diffusion processes. Hence, not only academic researchers but also many practitioners have used the methodology for a variety of financial issues such as pricing or hedging complex derivatives under high-dimensional underlying stochastic environments. In practical applications of the expansion, a crucial step is calculation of conditional expectations for a certain kind of Wiener functionals. [1995], [1999] and Takahashi and Takehara [2007] provided explicit formulas for those conditional expectations necessary for the asymptotic expansion up to the third order. This paper presents the new method for computing an arbitrary-order expansion in a general diffusion-type stochastic environment, which is powerful especially for high-order expansions: We develops a new calculation algorithm for computing coefficients of the expansion through solving a system of ordinary differential equations that is equivalent to computing the conditional expectations directly. To demonstrate its effectiveness, the paper gives numerical examples of the approximation for a lambda-SABR model up to the fifth order.

"Pricing Barrier and Average Options under Stochastic Volatility Environment"

This paper proposes a new approximation method of pricing barrier and average options under stochastic volatility environment by applying an asymptotic expansion approach. In particular, a high-order expansion scheme for general multi-dimensional diffusion processes is effectively applied. Moreover, the paper combines a static hedging method with the asymptotic expansion method for pricing barrier options. Finally, numerical examples show that the fourth or fifth-order asymptotic expansion scheme provides sufficiently accurate approximations under the ă-SABR and SABR models.

"Computation in an Asymptotic Expansion Method"

An asymptotic expansion scheme in finance initiated by Kunitomo and Takahashi [15] and Yoshida[68] is a widely applicable methodology for analytic approximation of the expectation of a certain functional of diffusion processes. [46], [47] and [53] provide explicit formulas of conditional expectations necessary for the asymptotic expansion up to the third order. In general, the crucial step in practical applications of the expansion is calculation of conditional expectations for a certain kind of Wiener functionals. This paper presents two methods for computing the conditional expectations that are powerful especially for high order expansions: The first one, an extension of the method introduced by the preceding papers presents a general scheme for computation of the conditional expectations and show the formulas useful for expansions up to the fourth order explicitly. The second one develops a new calculation algorithm for computing the coefficients of the expansion through solving a system of ordinary differential equations that is equivalent to computing the conditional expectations. To demonstrate their effectiveness, the paper gives numerical examples of the approximation for ă-SABR model up to the fifth order and a cross-currency Libor market model with a general stochastic volatility model of the spot foreign exchange rate up to the fourth order.

Computation in an Asymptotic Expansion Method

An asymptotic expansion scheme in finance initiated by Kunitomo and Takahashi [15] and Yoshida[68] is a widely applicable methodology for analytic approximation of the expectation of a certain functional of diffusion processes. [46], [47] and [53] provide explicit formulas of conditional expectations necessary for the asymptotic expansion up to the third order. In general, the crucial step in practical applications of the expansion is calculation of conditional expectations for a certain kind of Wiener functionals. This paper presents two methods for computing the conditional expectations that are powerful especially for high order expansions: The first one, an extension of the method introduced by the preceding papers presents a general scheme for computation of the conditional expectations and show the formulas useful for expansions up to the fourth order explicitly. The second one develops a new calculation algorithm for computing the coefficients of the expansion through solving a system of ordinary differential equations that is equivalent to computing the conditional expectations. To demonstrate their effectiveness, the paper gives numerical examples of the approximation for ă-SABR model up to the fifth order and a cross-currency Libor market model with a general stochastic volatility model of the spot foreign exchange rate up to the fourth order.

Pricing Barrier and Average Options under Stochastic Volatility Environment

This paper proposes a new approximation method of pricing barrier and average options under stochastic volatility environment by applying an asymptotic expansion approach. In particular, a high-order expansion scheme for general multi-dimensional diffusion processes is effectively applied. Moreover, the paper combines a static hedging method with the asymptotic expansion method for pricing barrier options. Finally, numerical examples show that the fourth or fifth-order asymptotic expansion scheme provides sufficiently accurate approximations under the lambda-SABR and SABR models.

"Application of a High-Order Asymptotic Expansion Scheme to Long-Term Currency Options"

Recently, not only academic researchers but also many practitioners have used the methodology so-called "an asymptotic expansion method" in their proposed techniques for a variety of financial issues. e.g. pricing or hedging complex derivatives under high-dimensional stochastic environments. This methodology is mathematically justified by Watanabe theory(Watanabe [1987], Yoshida [1992a,b]) in Malliavin calculus and essentially based on the framework initiated by Kunitomo and Takahashi [2003], Takahashi [1995,1999] in a financial context. In practical applications, it is desirable to investigate the accuracy and stability of the method especially with expansion up to high orders in situations where the underlying processes are highly volatile as seen in recent financial markets. After Takahashi [1995,1999] and Takahashi and Takehara [2007] had provided explicit formulas for the expansion up to the third order, Takahashi, Takehara and Toda [2009] develops general computation schemes and formulas for an arbitrary-order expansion under general diffusion-type stochastic environments. In this paper, we describe them in a simple setting to illustrate thier key idea, and to demonstrate their effectiveness apply them to pricing long-term currency options under a cross-currency Libor market model and a general stochastic volatility of a spot exchange rate with maturities up to twenty years.

"A General Computation Scheme for a High-Order Asymptotic Expansion Method"

This paper presents a new computational scheme for an asymptotic expansion method of an arbitrary order. An asymptotic expansion method in finance initiated by Kunitomo and Takahashi[9], Yoshida[34] and Takahashi [20], [21] is a widely applicable methodology for an analytic approximation of the expectation of a certain functional of diffusion processes and not only academic researchers but also many practitioners have used the methodology for a variety of financial issues such as pricing or hedging complex derivatives under highdimensional underlying stochastic environments. In practical applications of the expansion, the crucial step is calculation of conditional expectations for a certain kind of Wiener functionals. [20], [21] and Takahashi and Takehara [23] provided explicit formulas of conditional expectations necessary for the asymptotic expansion up to the third order. This paper presents the new method for computing an arbitrary-order expansion in a general diffusion-type stochastic environment, which is powerful especially for a high-order expansion: This develops a new calculation algorithm for computing coefficients of the expansion through solving a system of ordinary differential equations that is equivalent to computing the conditional expectations. To demonstrate its effectiveness, the paper gives numerical examples of the approximation for the -SABR model up to the fifth order and a cross-currency Libor market model with a general stochastic volatility model of the spot foreign exchange rate up to the fourth order.

The Msd1–Wdr8–Pkl1 complex anchors microtubule minus ends to fission yeast spindle pole bodies

The minus ends of spindle microtubules are anchored to a microtubule-organizing center. The conserved Msd1/SSX2IP proteins are localized to the spindle pole body (SPB) and the centrosome in fission yeast and humans, respectively, and play a critical role in microtubule anchoring. In this paper, we show that fission yeast Msd1 forms a ternary complex with another conserved protein, Wdr8, and the minus end–directed Pkl1/kinesin-14. Individual deletion mutants displayed the identical spindle-protrusion phenotypes. Msd1 and Wdr8 were delivered by Pkl1 to mitotic SPBs, where Pkl1 was tethered through Msd1–Wdr8. The spindle-anchoring defect imposed by msd1/wdr8/pkl1 deletions was suppressed by a mutation of the plus end–directed Cut7/kinesin-5, which was shown to be mutual. Intriguingly, Pkl1 motor activity was not required for its anchoring role once targeted to the SPB. Therefore, spindle anchoring through Msd1–Wdr8–Pkl1 is crucial for balancing the Cut7/kinesin-5–mediated outward force at the SPB. Our analysis provides mechanistic insight into the spatiotemporal regulation of two opposing kinesins to ensure mitotic spindle bipolarity.This research was supported by Cancer Research UK (T. Toda)