Eur. Phys. J. B 42, 141-153 (2004)
https://doi.org/10.1140/epjb/e2004-00366-7

Partial derivative approach for option pricing in a simple stochastic volatility model

Departament de Física Fonamental, Universitat de Barcelona, Diagonal 647, 08028 Barcelona, Spain

Corresponding author: ^a miquel.montero@ub.edu

Received: 12 December 2003
Revised: 13 May 2004
Published online: 26 November 2004

Abstract

We study a market model in which the volatility of the stock may jump at a random time from a fixed value to another fixed value. This model has already been introduced in the literature. We present a new approach to the problem, based on partial differential equations, which gives a different perspective to the issue. Within our framework we can easily consider several forms for the market price of volatility risk, and interpret their financial meaning. We thus recover solutions previously mentioned in the literature as well as obtaining new ones.