Analytically pricing European options with a two-factor Stein–Stein model.

Stochastic volatility models are widely used in option pricing; however, most of these models assume a constant long-term mean of volatility that fails to account for the implied volatility term structure. In response, this article proposes an improved Stein–Stein model that enables the random variation of the long-term mean under the Stein–Stein model while also relaxing the zero correlation assumption between asset and volatility. One of the new model's chief advantages is that it offers an analytical solution to European option prices, thus speeding up the calibration process and allowing for easy implementation in practical risk management. An empirical analysis based on 50ETF options in the Chinese market demonstrates that the newly improved Stein–Stein model predicts market outcomes more accurately compared to the original Stein–Stein model. [ABSTRACT FROM AUTHOR]