Reduced Basis Methods for Pricing Options with the Black--Scholes and Heston Models
Abstract
In this paper, we present a reduced basis method for pricing European and American options based on the Black--Scholes and Heston models. To tackle each model numerically, we formulate the problem in terms of a time-dependent variational equality or inequality. We apply a suitable reduced basis approach for both types of options. The characteristic ingredients used in the method are a combined POD-Greedy and Angle-Greedy procedure for the construction of the primal and dual reduced spaces. Analytically, we prove the reproduction property of the reduced scheme and derive a posteriori error estimators. Numerical examples are provided, illustrating the approximation quality and convergence of our approach for the different option pricing models. Also, we investigate the reliability and effectivity of the error estimators.
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© 2015, Society for Industrial and Applied Mathematics.
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Submitted: 6 August 2014
Accepted: 27 May 2015
Published online: 6 August 2015
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