Hedging under rough volatility
Mathematical Finance
2021-05-11 v1
Abstract
In this chapter we first briefly review the existing approaches to hedging in rough volatility models. Next, we present a simple but general result which shows that in a one-factor rough stochastic volatility model, any option may be perfectly hedged with a dynamic portfolio containing the underlying and one other asset such as a variance swap. In the final section we report the results of a back-test experiment using real data, where VIX options are hedged with a forward variance swap. In this experiment, using a rough volatility model allows to almost completely remove the bias and reduce the overall hedging error by a factor of 27% compared to traditional diffusion-based models.
Keywords
Cite
@article{arxiv.2105.04073,
title = {Hedging under rough volatility},
author = {Masaaki Fukasawa and Blanka Horvath and Peter Tankov},
journal= {arXiv preprint arXiv:2105.04073},
year = {2021}
}