English

Pricing Variance Swaps on Time-Changed Markov Processes

Mathematical Finance 2019-11-18 v3

Abstract

We prove that the variance swap rate (fair strike) equals the price of a co-terminal European-style contract when the underlying is an exponential Markov process, time-changed by an arbitrary continuous stochastic clock, which has arbitrary correlation with the driving Markov process, provided that the payoff function GG of the European contract satisfies an ordinary integro-differential equation, which depends only on the dynamics of the Markov process, not on the clock. We present examples of Markov processes where the function GG that prices the variance swap can be computed explicitly. In general, the solutions GG are not contained in the logarithmic family previously obtained in the special case where the Markov process is a L\'evy process.

Keywords

Cite

@article{arxiv.1705.01069,
  title  = {Pricing Variance Swaps on Time-Changed Markov Processes},
  author = {Peter Carr and Roger Lee and Matthew Lorig},
  journal= {arXiv preprint arXiv:1705.01069},
  year   = {2019}
}

Comments

19 pages, 3 figures

R2 v1 2026-06-22T19:34:30.045Z