Research Of Pricing And Hedging Of The SSE 50ETF Option Based On Heston Stochastic Volatility Model

In 1993, ETF (exchange-traded index funds) was first introduced in the United States, it combines the advantages of both closed-ended and open-ended funds. In additioan, ETF can distribute non-systematic risk, reduce transaction costs, and allow short-selling, while still enjoy the benefits of high return from risky and volatile common stock. ETF can meet investors' long-term investment and speculative needs. In 1998, the American Stock Exchange launched the first option written on ETF, ETF option market grew steadily since then. On February 9th,2015, the first stock option in China-SSE 50ETF option was officially traded, which kicks off the era of equity options in China's securities market history. ETF options have five main functions, such as risk management, wealth accumulation, information transmission, price discovery and cash flow promoter, which boost the development of arbitrage market, making capital markets more wide, deepening and flexible.The paper is consist of four chapters. In the first chapter, combined with the development background of the SSE 50ETF option, the author analyzes the significance and topic basis of this research. According to the related literatures review about option pricing theory and stochastic volatility model, author summarized the progress and shortcomings of existing researches, and proposed research framework and main contents of this paper. The second chapter summarizes the concepts and theories related to this article, introducing the basic assumptions of the Heston stochastic volatility model calculated with Fourier transform methods, and simulated annealing algorithm to calibrate the parameters used in the model. Chapter III is the empirical research of pricing the SSE 50ETF option and comparative analysis about Heston model price with B-S model. Chapter IV is about comparative analysis of the hedging effectiveness of Heston model and B-S model using the minimum variance method.The main contents and results of this paper are as follows:(1) The descriptive statistical tests about the underlying asset of SSE 50ETF option-SSE 50ETF Fund (510050.of), return yields sequence and volatility time series, showed that the yield of the underlying asset sequence is not normal distribution, with a fat tail and mean-reverting volatility. It fits the financial facts to simulate the price movements of the underlying asset with stochastic volatility model.(2) SSE 50ETF option pricing based on Heston model. We used adaptive simulated annealing algorithm to calibrate daily parameters for Heston model, and predict within the sample and comparing with the B-S model price. RMSE shows that the results of Heston model are better than B-S model prices. Compared to the simulated annealing algorithm and nonlinear least squares method in MATLAB, ASA comes with the faster calibration and higher accuracy, provides a theoretical basis and reference for practical applications based on option pricing with stochastic volatility.(3) Based on stochastic volatility model, we use the 50ETF option to hedge the risk of 50ETF with Delta neutural strategy, then compare with B-S model with minimum variance portfolio hedging method. Compared to B-S model portfolio strategy, Delta hedge based on Heston stochastic volatility model can better hedge spot risks.