The arbitrage inconsistencies of implied volatility extraction in connection to calendar bandwidth

0507127 - ÚTIA 2020 RIV CZ eng K - Conference Paper (Czech conference)
Vitali, Sebastiano - Tichý, Tomáš - Kopa, Miloš
The arbitrage inconsistencies of implied volatility extraction in connection to calendar bandwidth.
Proceedings of 10th International Scientific Conference Financial management of firms and financial institutions Ostrava. Ostrava: VŠB-Technická univerzita Ostrava, 2015, s. 1405-1409. ISBN 978-80-248-3865-6.
[International Scientific Conference Financial management of firms and financial institutions Ostrava 2015 /10./. Ostrava (CZ), 07.09.2015-08.09.2015]
R&D Projects: GA ČR GA13-25911S
Institutional support: RVO:67985556
Keywords : Option pricing * implied volatility * arbitrage opportunity * calendar bandwidth * bandwidth size
OECD category: Statistics and probability
http://library.utia.cas.cz/separaty/2019/E/vitali-0507127.pdf

Options are often priced by Black and Scholes model by using artificial (and unobserved) volatility implied by option market prices. Since many options do not have their traded counterparts with the same maturity and moneyness, it is often needed to interpolate the volatility values. The general procedure of implied volatility extraction from market prices and subsequent smoothing can, however, lead to inconsistent values or even arbitrage opportunities. In this paper, a potential arbitrage area is studied in connection with the calendar bandwidth construction.
Permanent Link: http://hdl.handle.net/11104/0298534