Pricing quanto options with market liquidity risk.

This paper investigates the pricing problem of quanto options with market liquidity risk using the Bayesian method. The increasing volatility of global financial markets has made liquidity risk a significant factor that should be taken into consideration while evaluating option prices. To address this issue, we first derive the pricing formula for quanto options with liquidity risk. Next, we construct a likelihood function to conduct posterior inference on model parameters. We then propose a numerical algorithm to conduct statistical inferences on the option prices based on the posterior distribution. This proposed method considers the impact of parameter uncertainty on option prices. Finally, we conduct a comparison between the Bayesian method and traditional estimation methods to examine their validity. Empirical results show that our proposed method is feasible for pricing and predicting quanto options with liquidity risk, particularly for parameter estimations with a small sample size.
Competing Interests: The authors have declared that no competing interests exist.
(Copyright: © 2023 Gao, Bai. This is an open access article distributed under the terms of the Creative Commons Attribution License, which permits unrestricted use, distribution, and reproduction in any medium, provided the original author and source are credited.)