---------- Forwarded message (reformatted) ---------- Date: Fri, 14 Jul 2000 16:07:36 +0200 From: Robert Tompkins <rtompkins(a)ins.at> FINANCIAL OPTIONS RESEARCH CENTRE WARWICK BUSINESS SCHOOL UNVERSITY OF WARWICK Director: Professor Stewart Hodges 13th ANNUAL OPTIONS CONFERENCE Thursday & Friday 14 - 15 September 2000 The Centre was established to bridge the gap between leading academic work on financial markets and the needs of practitioners, particularly those concerned with derivative instruments and risk management. FORC's research policy is to identify and work on those topics of the greatest importance at the boundary between academic research on derivatives and its applications in the market place. The conference provides a unique forum for leading practitioners and academics to discuss the latest advances in the pricing and hedging of derivatives. We are proud of our record of identifying and promoting key new developments: This year's programme provides another hand picked selection of the most exciting new theoretical and empirical research. We are pleased to present the following speakers Mark Davis Stephen Figlewski Helyette Geman Stewart Hodges Farshid Jamshidian Jean-Philippe Bouchaud Klaus Sandmann Andrew Smith Nassim Taleb Robert Tompkins WHERE AND WHEN The conference will be held in Scarman House, at the University of Warwick. The Conference will start at 10.00 am on Thursday 14 September 2000 and end at 5.00 pm on Friday 15 September 2000. A bus will meet participants off the 8.15 am train from Euston, London, arriving at Coventry Station at 9.30 am on Thursday and take them back to Coventry station on Friday to catch the 5:37 pm train to Euston, arriving in London at 6.55 pm. Contact No. for enquiries: 024 76 524118 or E-mail: forcsha(a)wbs.warwick.ac.uk Fax 024 76 524167 ------------------------------------------------------------------------- To get further information and an application form (as a MS-Word document) contact Robert Tompkins <rtompkins(a)ins.at> or <forcsha(a)wbs.warwick.ac.uk>uk>. CONFERENCE PROGRAMME Thursday 14 September 2000 9.30 Registration/Coffee 10.00 On the Market Model of Futures Rates Futures contracts are in many cases the basic securities of an interest rate market. In despite of this observation most interest rate models assume the forward rates as primary elements of the model. The process of futures prices is therefore endogenous to these models. In addition hedging strategies are formulated in terms of forward and/or spot contracts and to a less extent in terms of futures. The modelling framework used in this presentation is based on the Market Model approach. Instead of finitely compounded forward rates implied futures rates are the primary objects. The relationship between these two modelling assumptions will be discussed and first pricing results will be derived. Furthermore the relationship between a Market Model approach and the Heath, Jarrow and Morton approach for continuously compounded interest rates is investigated. Klaus Sandmann 11.15 Libor Market Model with Semimartingales This paper extends the Libor market model to general semimartingales. Appealing simplifications occur for special semimartingales. The case where forward Libor rates are driven by a Brownian motion and a general integer-valued random measure is especially highlighted. Basically, from the existence of a state-price density, the drift of the forward Libor system is determined in terms of the other two characteristics, namely the covariation matrix of the continuous part and Levy measure of the system. Necessary and sufficient conditions are established, and formulae for forward Libor rates and deflated bond prices are derived in the actual, forward, and spot-Libor measures. Several other topics, such as continuous compounding as the limiting case and model construction, are discussed. Farshid Jamshidian 12.30 Lunch 2.00 Pricing Beyond the Curve Wherever possible, practitioners seek to price derivatives in a way which is consistent with an observed yield curve. But some products extend beyond the observable yield curve. Simplistic extrapolation methods may be unstable and lead to predictable convexity losses on revaluation. This paper considers extrapolation methods which arise from Markovian models and are consistent with absence of arbitrage. We identify the long spot rate as the leading eigenvalue of an integral operator, and obtain asymptotic long bond formulas which extend the result of Dybvig, Ingersoll and Ross. We illustrate the techniques by pricing various long pension liabilities, expressed in currency terms, or relative to inflation, or defined by compounded inflation subject to caps and floors applied annually. Andrew Smith 3.10 Optimal Hedging with Basis Risk It often happens that options are written on underlying assets that cannot be traded directly, but where a 'closely related' asset can be traded. Rather than simply using the traded asset as a proxy for the option underlying, one should calculate some 'best' hedging strategy. This is an 'incomplete markets' problem, and we address it using a utility maximization approach. With exponential utility the optimal hedging strategy can be computed in reasonably explicit form using the methods of convex duality. In particular, a perturbation analysis using ideas of Malliavin calculus gives the modification to the exact replication strategy that is appropriate when the option underlying and traded assets are highly, but not perfectly, correlated. Mark Davis 4.20 Afternoon Tea 4.50 The Sampling Properties of Volatility Cones In this research, we extend the original work on volatility cones by Burghardt and Lane (1990) to consider of the sampling properties of the variance of variance (and the standard deviation of volatility) under a rich class of models that includes stochastic volatility and conditionally fat-tailed distributions. Because the volatility cone examines volatility at quite long horizons, the estimation requires the use of overlapping data. This theory confirms the casual observation that the estimation of the variance of variance is downward biased when estimation is done on an overlapping basis. We identify what this bias is and derive an adjustment factor that approximates an unbiased estimate of the true variance of variance over various horizons when overlapping data is used. Robert Tompkins 6.00 Finish in time for Dinner in the Sutherland Suite, Rootes Social Building at 7.00 for 7.30 pm. Friday 15 September 2000 9.00 Coffee 9.30 Hedging Errors under Misspecified Asset Price Processes The paper provides a fairly general representation for hedging errors under misspecified asset price processes. The hedging errors are then studied in more detail for standard vanilla options, including the relationship between the size of the hedging errors and the error in volatility. Two alternative approaches are provided for estimating the moments of the distribution of hedging errors: binomial tree and kernel estimation. The analysis has potential implications for understanding the risks of other, more exotic, contingent claims and of portfolios of claims. Stewart Hodges/Iliana Anagnou 10.35 Historical Option Pricing: Smile, Skew and Volatility Correlations In this seminar, we will present recent advances in option pricing beyond Black-Scholes, in particular we will discuss the relationship between smile and skew/kurtosis in the terminal distribution. The main point is to understand why the smile survives to long maturity. From an empirical analysis of the statistics of stock prices, we will illustrate the impact of long-range volatility auto-correalations on kurtosis and that of price-volatility correlations on skewness. In the light of this analysis, we will comment on recent multifractal models. Jean-Philippe Bouchaud/ Marc Potters 11.40 Coffee 12.00 The Fine Structure of Asset Returns: An Empirical Investigation Rubinstein binomial approximation of the process as well as delivering unique pricing of derivatives by arbitrage. In order to capture the recent moves of the Dow Jones and Nasdaq, we propose to introduce jumps in the trajectories. In contrast with the Continuity of price processes has served finance as a convenient and powerful assumption, justifying the Cox-Ross-standard modelling of jumps for asset returns, the jump component can display finite or infinite variation. Empirical investigations of time series indicate that index dynamics (e.g., SPX, RUT) are essentially devoid of a diffusion component while this component may be present in the dynamics of individual stocks: we analyse over a five year period time series of 13 stock prices including IBM, General Electrics and other major companies. This result leads to the conjecture that the risk-neutral process should be free of a diffusion component for both indices and individual stocks. Empirical investigation of options data tends to confirm this conjecture. Helyette Geman 1.10 Lunch 2.30 Asymmetries in Dynamic Hedging Discreteness in time and price movements of asset prices induces significant asymmetries between short and long option portfolios. We examine the microstructure of order execution and the tracking of the replicating process. We argue that an operator long options may incur positive transaction costs. Nassim Taleb 3.35 Afternoon Tea 3.55 Model Risk in Option Pricing Trading in derivatives involves heavy use of quantitative models for valuation and risk management. Traders use the available models extensively, and make a variety of ad hoc adjustments to try to bring the models into line with the real world. The practical result is exposure to "model risk". We will report results from an empirical simulation using historical data for several important markets, that allow a quantitative assessment impact of model risk. Pricing and hedging errors due to imperfect models and inaccurate volatility forecasts create sizable risk exposure. We then go on to consider the broader issue of how to evaluate the practical contribution of a given model. The performance of a theoretical model is compared to that of a "null model" based on minimal information. Stephen Figlewski 5.00 FINISH Coach will take delegates to catch the 5.37 pm train from Coventry, arriving at Euston at 6.55 pm CONFERENCE SPEAKERS Farshid Jamshidian is managing director of NetAnalytic, a risk management products and services company he founded in 1999. Previously he was Managing Director of New Products and Equity Derivatives at Sakura Global Capital (1994-99), Executive Director of Technical Trading at Fuji International Finance (1991-94) and head of fixed-quantitative fixed-income research at Merrill Lynch (1986-91). His experience covers both fixed-income and equity research and trading. Dr. Jamshidian has made important contributions to the theory contingent claims, and has published extensively, especially on interest-rate modelling. He has Ph.D. in mathematics from Harvard University, and an MSc. in computer science from Stanford University. Mark Davis is a Visiting Professor in the Financial and Actuarial Mathematics Group at the Technical University of Vienna and, from August 2000, Professor of Mathematics at Imperial College London. From 1995-99 he was Head of Research and Product Development at Tokyo-Mitsubishi International (TMI), the London-based investment banking subsidiary of the Tokyo-Mitsubishi Bank, where his front-office group developed pricing models and risk analysis for equity, fixed-income and credit derivative products. Prior to this he was at Imperial College, specializing in stochastic analysis, control theory and financial mathematics. He holds a PhD in Electrical Engineering from the University of California and an ScD in Mathematics from Cambridge University. Andrew Smith is an associate at Bacon & Woodrow, actuaries and consultants. He is responsible for the development and implementation of Monte Carlo worldwide capital market models. He applies these to pricing and risk management problems for financial institutions. Stephen Figlewski is a Professor of Finance at the New York University Leonard N. Stern School of Business, where he has been since 1976. He has published extensively in academic journals, especially in the area of financial futures and options. He is the founding Editor of The Journal of Derivatives and an Associate Editor for several other journals. He also edits the Financial Economics Network's two "Derivatives" series published over the Internet. His most recent endeavour is the NYU Stern School Derivatives Research Project. He has also spent time on Wall Street. He was a Vice President at the First Boston Corporation, in charge of research on equity derivative products, and has been a member of the New York Futures Exchange and a Competitive Options Trader at the New York Stock Exchange. Professor H�lyette Geman is a graduate from Ecole Normale Sup�rieure, holds a master's degree in theoretical physics and PhDs in probability theory and Finance. Previously a Director at Caisse des D�p�ts in change of Research and Development, she is currently a scientific adviser for major financial institutions and industrial firms. Dr Geman received in 1993 the first prize of the Merrill Lynch awards for her work on exotic options and has extensively published in the top international journals. She is the author of the book ( Insurance and Weather Derivatives (. Robert Tompkins holds joint appointments as a University Dozent at the Technical Universitaet, Vienna and in the Finance Group at the Institute for Advanced Studies (Vienna). He was formerly the Head of International Quantitative Research at Kleinwort Benson Investment Management. In addition, he remains the Managing Director of the Minerva Group. Prior to this, he was the Futures and Options Specialist at Merrill Lynch, Europe and an Interest Rate Options Dealer and Currency Options Trader at two major Chicago banks. He has an MA in Quantitative Methods and an MBA from the University of Chicago, and a PhD in Finance from the University of Warwick. Robert has authored three books on Options and edited a book on exotic options "From Black Scholes to Black Holes". He has published widely in RISK Magazine, and a number of academic journals. Nassim N. Taleb is currently President and Head Trader at Empirica Capital LLC, an option hedge fund operator in Greenwich CT, and a fellow and adjunct professor at the Courant Institute of New York University. He previously held positions of senior derivatives trader at a variety of houses (including CSFB, UBS, Bankers Trust and Paribas), and operated as an independent floor trader on the Chicago exchanges. He holds an MBA from the Wharton School and a Ph.D. from Paris-Dauphine and is the author of Dynamic Hedging (Wiley 1997). His main research focuses around volatility econometrics and the adaptation of option theory to the real-world stochastic process. Marc Potters Marc Potters holds a Ph.D. in physics from Princeton University and was a post-doctoral fellow at the University of Rome `La Sapienza'. In 1995, he joined Science & Finance a research company located in Paris and founded by J.-P. Bouchaud and J.-P. Aguilar. Dr. Potters is now Head of Research of S&F. In collaboration with the researchers at S&F, he has published numerous articles in the new field of statistical finance and worked on concrete applications of financial forecasting, option pricing and risk control Jean Philippe Bouchaud Jean-Philippe Bouchaud. graduated from Ecole Normale Suprieure in Paris, where he obtained his PhD in physics. He was then appointed by the CNRS until 1992, where he worked on diffusion in random media. Dr Bouchaud joined the Service de Physique de l'Etat Condens (CEA-Saclay) where he works on the dynamics of glassy systems and on granular media. His work in finance includes extreme risk control and alternative Stewart Hodges Stewart Hodges directs the Financial Options Research Centre and is Professor of Financial Management at the University of Warwick. He is an associate editor of the Journal of Derivatives and has published widely. His current research interests include the role of derivatives in incomplete markets and their use in investment management. * * *