Option Pricing in a regime switching stochastic volatility model

Abstract

Regime switching models play a crucial role in the time series modeling. The Markov switching models are one of such extensively studied regime switching models, where the market parameters are driven by finite state Markov process. Semi-Markov switching models are further generalization of such models. ? ? In this talk, we discuss a European type option pricing problem under semi-Markov modulated market. We consider a financial market where the risky asset price dynamics follows a regime switching stochastic volatility model. We show the locally risk minimizing option price satisfies a non-local integro-PDE. We discuss the existence and uniqueness of the solution to the integro-PDE. We also derive the expression for hedging of optimal hedging strategy.