The pricing of Asian options with default risk

Abstract

Owing to the fact that the over-the-counter (OTC) market has no organized exchange, the options traded in the OTC market are more likely to be exposed to credit risk, Asian options being one of them. In this chapter we first discuss the pricing of geometric Asian options and the Black–Scholes options model subject to credit risk. We then combine the two models to derive a closed-form formula for pricing a geometric Asian option subject to the credit risk. The numerical analysis reveals that other pricing formulae existing in the literature can cause serious pricing errors when there is a possibility of default in reality.

Citation

Tsao, C.-Y. and Liu, C.-C. (2009), "The pricing of Asian options with default risk", Chen, A.H. (Ed.) Research in Finance (Research in Finance, Vol. 25), Emerald Group Publishing Limited, Leeds, pp. 343-369. https://doi.org/10.1108/S0196-3821(2009)0000025015