Why Sell-Side Equity Derivative Valuations Differ

Summary

The document explains why two bank desks can quote different values for the same over-the-counter equity derivative. Differences may arise from the volatility surfaces each desk uses, including how each estimates skew, or from different pricing models and calibration parameters. Even desks using the same model can therefore produce distinct valuations.

A further source of variation is the dealer’s existing risk. A desk with a large gamma exposure may prefer to trade in a direction that reduces it, and its quote can reflect that preference. The response also describes how a dealer may revise a quote after an immediate trade suggests the original price was too favorable. These are qualitative examples rather than measured results; the document does not quantify the impact of model, calibration, inventory, or customer behavior on a particular quote.

Key ideas

• Different volatility surface estimates can produce different derivative valuations.
• Banks may use different pricing models or calibrate a shared model with different parameters.
• A dealer’s existing exposure can influence the price it is willing to quote.
• A trade executed immediately may prompt a dealer to reassess its quote.

Tags

# Factors that make sell-side valuations of equity derivatives differ


# Factors that make sell-side valuations of equity derivatives differ












If I ask a sell-side desk "A" for a "valuation" of a relatively simple OTC product (equity derivative, or 1st generation equity exotic), what are the reasons/main reason why a different sell-side desk "B" (at some other bank) would arrive at a different valuation for exactly the same product?

## Answer by FinanceGuyThatCantCode (score 3, accepted)

https://quant.stackexchange.com/a/33824

Pricing these products is subject to different models. One bank might calibrate their vol surfaces slightly differently and have different skews on their respective smiles. Also, one bank might assume a slightly different stochastic process in their model for the pricing - or use the same model, but calibrated with different parameters.

Lastly, If I already am very very long a lot of SPX gamma, I probably don't want to buy a short dated digital near the money from you - I would probably prefer to sell it to you to unload some gamma - and I will show you prices according to my preference - of course if you buy from me immediately, no questions asked, I may suspect that I was a bit low and move the price up a bit afterwards.

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