Section: New Results

Risk management in finance and insurance

Option pricing in a non-linear incomplete market model with default

Agnès Sulem has studied with Miryana Grigorova (University of Leeds) and Marie-Claire Quenez (Université Paris Denis Diderot) superhedging prices and the associated superhedging strategies for both European and American options (see [33] and [32] in a non-linear incomplete market model with default. The underlying market model consists of a risk-free asset and a risky asset driven by a Brownian motion and a compensated default martingale. The portfolio processes follow non-linear dynamics with a non-linear driver $f$.

Neural network regression for Bermudan option pricing

The pricing of Bermudan options amounts to solving a dynamic programming principle, in which the main difficulty, especially in high dimension, comes from the conditional expectation involved in the computation of the continuation value. These conditional expectations are classically computed by regression techniques on a finite dimensional vector space. In [36], Bernard Lapeyre and Jérôme Lelong study neural networks approximations of conditional expectations. They prove the convergence of the well-known Longstaff and Schwartz algorithm when the standard least-square regression is replaced by a neural network approximation. They illustrate the numerical efficiency of neural networks as an alternative to standard regression methods for approximating conditional expectations on several numerical examples.

Hybrid numerical method for option pricing

With Giulia Terenzi, Lucia Caramellino (Tor Vegata University), and Maya Briani (CNR Roma), Antonino Zanette develop and study stability properties of a hybrid approximation of functionals of the Bates jump model with stochastic interest rate that uses a tree method in the direction of the volatility and the interest rate and a finite-difference approach in order to handle the underlying asset price process. They also propose hybrid simulations for the model, following a binomial tree in the direction of both the volatility and the interest rate, and a space-continuous approximation for the underlying asset price process coming from a Euler–Maruyama type scheme. They test their numerical schemes by computing European and American option prices [17].

American options

With his PhD student Giulia Terenzi, Damien Lamberton has been working on American options in Heston's model [22]. He is currently preparing his contribution to a winter school on "Theory and practice of optimal stopping and free boundary problems" (cf. https://conferences.leeds.ac.uk/osfbp/).

Solvency Capital Requirement in Insurance

A. Alfonsi has obtained a grant from AXA Foundation on a Joint Research Initiative with a team of AXA France working on the strategic asset allocation. This team has to make recommendations on the investment over some assets classes as, for example, equity, real estate or bonds. In order to do that, each side of the balance sheet (assets and liabilities) is modeled in order to take into account their own dynamics but also their interactions. Given that the insurance products are long time contracts, the projections of the company's margins have to be done considering long maturities. When doing simulations to assess investment policies, it is necessary to take into account the SCR which is the amount of cash that has to be settled to manage the portfolio. Typically, the computation of the future values of the SCR involve expectations under conditional laws, which is greedy in computation time.

A. Alfonsi and his PhD student A. Cherchali have developed a model of the ALM management of insurance companies that takes into account the regulatory constraints on life-insurance [25]. We now focus on developing Multilevel Monte-Carlo methods to approximate the SCR (Solvency Capital Requirement).

Pricing and hedging variable annuities of GMWB type in advanced stochastic models

Antonino Zanette with Ludovic Goudenège (Ecole Centrale de Paris) and Andrea Molent (University of Udine) study the valuation of a particular type of variable annuity called GMWB when advanced stochastic models are considered. As remarked by Yang and Dai (Insur Math Econ 52(2):231–242, 2013), and Dai et al. (Insur Math Econ 64:364–379, 2015), the Black–Scholes framework seems to be inappropriate for such a long maturity products. Also Chen et al. (Insur Math Econ 43(1):165–173, 2008) show that the price of GMWB variable annuities is very sensitive to the interest rate and the volatility parameters. They propose here to use a stochastic volatility model (the Heston model) and a Black–Scholes model with stochastic interest rate (the Black–Scholes Hull–White model). For this purpose, they consider four numerical methods: a hybrid tree-finite difference method, a hybrid tree-Monte Carlo method, an ADI finite difference scheme and a Standard Monte Carlo method. These approaches are employed to determine the no-arbitrage fee for a popular version of the GMWB contract and to calculate the Greeks used in hedging. Both constant withdrawal and dynamic withdrawal strategies are considered. Numerical results are presented, which demonstrate the sensitivity of the no-arbitrage fee to economic and contractual assumptions as well as the different features of the proposed numerical methods [18].