Volatility extraction in information based asset pricing framework via non-linear filtering
Date
2019-08
Authors
Ikamari, Cynthia
Journal Title
Journal ISSN
Volume Title
Publisher
Strathmore University
Abstract
This study looks at the derivation of a state space model that is applied in nonlinear filtering. The
model is based on the Brody, Hughson and Macrina information based asset pricing model, also
known as the BHM approach or BHM model. The objective of this study is to extend the
application of a filtering approach used in estimation of volatilities for the Heston model to the
BHM model. The measurement and transition equations obtained in the state space model are
used in the extended kalman filter to extract volatility. The option price is obtained from the BSBHM
Updated Model by incorporating information in the Black-Scholes Model. This option
price is used to obtain the measurement equation while the variance process is used as the
transition equation.
Description
Paper presented at the 5th Strathmore International Mathematics Conference (SIMC 2019), 12 - 16 August 2019, Strathmore University, Nairobi, Kenya
Keywords
Kalman filter, Extended Kalman Filter, Measurement Equation, State Space Model, Transition Equation