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Estimating Volatility for Daily Option-Hedge Replication

Article Quant Q&A · Author: Question Anxiety
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Summary

The document describes an attempt to estimate an option premium by replicating a strategy using futures order-book snapshots. The data consist of daily observations at noon over one month for futures with different delivery periods. The central question is which volatility estimate to use when calculating hedge deltas for daily rebalancing, and whether volatility can be estimated from the observed product prices.

The source is only a question: it gives no proposed estimator, replication procedure, calculated premium, or evidence about the quality of a month of daily observations. It leaves unresolved how to select volatility for the hedge and whether the available sample is adequate. Any practical estimate would need to account for the option and futures structure and the limits of sparse observations, but those considerations are not developed in the document.

Key ideas

  • The proposed replication uses futures order-book snapshots to estimate an option premium.
  • The hedge is intended to be rebalanced daily using deltas.
  • The question asks how to estimate volatility from daily prices observed over one month.
  • No estimator, implementation, or performance evidence is supplied.

Tags

OptionsFuturesVolatilityDerivatives pricing
Full text
# Implementing a replicating strategy from the order book


# Implementing a replicating strategy from the order book












So I have futures data in an order book (one screenshot every day at 12 p.m. for one month) for various futures products (i.e. various delivery periods such as the next day, the day after and so on) and I want to apply a replication to estimate the option premium. My question is however what volatility i need to use to calculate the deltas for the hedging strategy with daily rebalancing and what would be the most feasible way to estimate it? Could I sort of estimate it for a product from the daily prices over a month?

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.