Knowledge (XXG)

Margrabe's formula

Source đź“ť

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will undo our change of numeraire, and give us the price in our original currency, which is the formula above. Alternatively, one can show it by the
1759: 1449: 85:, that we wish to price gives the buyer the right, but not the obligation, to exchange the second asset for the first at the time of maturity 236: 926: 1581: 1317: 721:
Margrabe's model of the market assumes only the existence of the two risky assets, whose prices, as usual, are assumed to follow a
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pricing formula applicable to an option to exchange one risky asset for another risky asset at maturity. It was derived by
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on the first asset (with its numeraire pricing) with a strike of 1 unit of the riskless asset. Note the dividend rate
1413: 725:. The volatilities of these Brownian motions do not need to be constant, but it is important that the volatility of 660: 1906: 1591: 1911: 1695: 1506: 722: 1814: 1809: 1464: 1409: 748:. The model does not require an equivalent risk-neutral probability measure, but an equivalent measure under S 1764: 1434: 1424: 1292: 1133: 1065: 959: 1713: 1561: 1546: 1511: 1454: 209:{\displaystyle \textstyle \sigma ={\sqrt {\sigma _{1}^{2}+\sigma _{2}^{2}-2\sigma _{1}\sigma _{2}\rho }}} 1774: 1625: 1541: 1118: 836: 760: 799:
Under this change of numeraire pricing, the second asset is now a riskless asset and its dividend rate
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is the interest rate. The payoff of the option, repriced under this change of numeraire, is max(0,
488: 1784: 1769: 1738: 1723: 1690: 1556: 1347: 1312: 1075: 1040: 1003: 945: 910: 756: 424: 384: 1789: 1779: 1718: 1705: 1680: 1566: 1352: 1148: 648:{\displaystyle d_{1}=(\ln(S_{1}(0)/S_{2}(0))+(q_{2}-q_{1}+\sigma ^{2}/2)T)/\sigma {\sqrt {T}}} 1670: 1660: 1650: 1609: 1604: 1586: 1516: 1282: 1277: 1249: 1201: 1080: 1020: 881: 741: 43: 39: 1880: 1850: 1845: 1799: 1635: 1630: 1576: 1486: 1394: 1367: 1307: 1302: 1272: 1221: 1206: 1123: 1103: 46:(PhD Chicago) in 1978. Margrabe's paper has been cited by over 2000 subsequent articles. 1855: 1840: 1640: 1551: 1501: 1478: 1459: 1287: 1229: 1196: 1191: 1171: 1095: 922: 466: 1895: 1835: 1804: 1645: 1571: 1531: 1526: 1362: 1234: 1181: 1176: 1158: 1055: 1035: 745: 1655: 1429: 1357: 1337: 1297: 1166: 1138: 1128: 1070: 1536: 1404: 1375: 1371: 1322: 1113: 1108: 822: 17: 965: 1860: 1496: 1491: 1257: 1143: 1050: 782: 230:
Margrabe's formula states that the fair price for the option at time 0 is:
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is the Pearson's correlation coefficient of the Brownian motions of the
368:{\displaystyle e^{-q_{1}T}S_{1}(0)N(d_{1})-e^{-q_{2}T}S_{2}(0)N(d_{2})} 839:
with these values as the appropriate inputs, e.g. initial asset value
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units of the second asset, and a unit of the second asset is worth 1.
862:, etc., gives us the price of the option under numeraire pricing. 832:
of the first asset remains the same even with change of pricing.
27:
Formula that calculates option prices for dividend-paying stocks
976: 785:'); this means that a unit of the first asset now is worth 942:"The Value of an Option to Exchange One Asset for Another" 907:"The Value of an Option to Exchange One Asset for Another" 74:, and that each has a constant continuous dividend yield 759:
by reducing the situation to one where we can apply the
132: 663: 499: 469: 427: 387: 239: 131: 1828: 1747: 1704: 1600: 1477: 1385: 1248: 1157: 1094: 1028: 1019: 767:First, consider both assets as priced in units of 702: 647: 475: 453: 413: 367: 208: 865:Since the resulting option price is in units of 703:{\displaystyle d_{2}=d_{1}-\sigma {\sqrt {T}}} 421:are the expected dividend rates of the prices 988: 8: 948:, Vol. 33, No. 1, (March 1978), pp. 177-186. 913:, Vol. 33, No. 1, (March 1978), pp. 177-186. 461:under the appropriate risk-neutral measure, 70:are the prices of two risky assets at time 1025: 995: 981: 973: 693: 681: 668: 662: 638: 630: 613: 607: 594: 581: 553: 544: 529: 504: 498: 468: 445: 432: 426: 405: 392: 386: 356: 331: 316: 308: 292: 267: 252: 244: 238: 194: 184: 168: 163: 150: 145: 139: 130: 964:Rolf Poulsen, University of Gothenburg, 1820:Power reverse dual-currency note (PRDC) 1760:Constant proportion portfolio insurance 898: 958:Mark Davis, Imperial College London, 7: 1755:Collateralized debt obligation (CDO) 821:So the original option has become a 25: 1874: 485:cumulative distribution function 1582:Year-on-year inflation-indexed 627: 621: 574: 568: 565: 559: 541: 535: 522: 513: 362: 349: 343: 337: 298: 285: 279: 273: 89:. In other words, its payoff, 1: 1592:Zero-coupon inflation-indexed 927:"cites" page for this article 889:External links and references 1795:Foreign exchange derivative 1187:Callable bull/bear contract 454:{\displaystyle S_{1},S_{2}} 414:{\displaystyle q_{1},q_{2}} 1928: 1869: 1696:Stock market index future 1010: 872:, multiplying through by 723:geometric Brownian motion 1815:Mortgage-backed security 1810:Interest rate derivative 1785:Equity-linked note (ELN) 1770:Credit-linked note (CLN) 1765:Contract for difference 1066:Risk-free interest rate 774:(this is called 'using 755:The formula is quickly 108:If the volatilities of 1547:Forward Rate Agreement 704: 649: 477: 455: 415: 369: 210: 1775:Credit default option 1119:Employee stock option 837:Black-Scholes formula 761:Black-Scholes formula 705: 650: 478: 456: 416: 370: 211: 1902:Mathematical finance 1729:Inflation derivative 1714:Commodity derivative 1686:Single-stock futures 1676:Normal backwardation 1666:Interest rate future 1507:Conditional variance 1013:Derivative (finance) 966:The Margrabe Formula 661: 497: 467: 425: 385: 237: 129: 32:mathematical finance 1881:Business portal 1734:Property derivative 960:Multi-Asset Options 173: 155: 1739:Weather derivative 1724:Freight derivative 1706:Exotic derivatives 1626:Commodities future 1313:Intermarket spread 1076:Synthetic position 1004:Derivatives market 946:Journal of Finance 940:William Margrabe, 911:Journal of Finance 905:William Margrabe, 700: 645: 473: 451: 411: 365: 206: 205: 159: 141: 36:Margrabe's formula 1907:Options (finance) 1889: 1888: 1790:Equity derivative 1780:Credit derivative 1748:Other derivatives 1719:Energy derivative 1681:Perpetual futures 1562:Overnight indexed 1512:Constant maturity 1473: 1472: 1420:Finite difference 1353:Protective option 935:Primary reference 744:) or any kind of 698: 643: 476:{\displaystyle N} 203: 16:(Redirected from 1919: 1912:Financial models 1879: 1878: 1651:Forwards pricing 1425:Garman–Kohlhagen 1026: 997: 990: 983: 974: 929: 920: 914: 903: 882:Girsanov theorem 851:, interest rate 742:zero-coupon bond 709: 707: 706: 701: 699: 694: 686: 685: 673: 672: 654: 652: 651: 646: 644: 639: 634: 617: 612: 611: 599: 598: 586: 585: 558: 557: 548: 534: 533: 509: 508: 482: 480: 479: 474: 460: 458: 457: 452: 450: 449: 437: 436: 420: 418: 417: 412: 410: 409: 397: 396: 374: 372: 371: 366: 361: 360: 336: 335: 326: 325: 321: 320: 297: 296: 272: 271: 262: 261: 257: 256: 215: 213: 212: 207: 204: 199: 198: 189: 188: 172: 167: 154: 149: 140: 117: 44:William Margrabe 21: 18:William Margrabe 1927: 1926: 1922: 1921: 1920: 1918: 1917: 1916: 1892: 1891: 1890: 1885: 1873: 1865: 1851:Great Recession 1846:Government debt 1824: 1800:Fund derivative 1743: 1700: 1661:Futures pricing 1636:Dividend future 1631:Currency future 1614: 1596: 1469: 1445:Put–call parity 1381: 1368:Vertical spread 1303:Diagonal spread 1273:Calendar spread 1244: 1153: 1090: 1015: 1006: 1001: 932: 921: 917: 904: 900: 891: 877: 870: 856: 848: 844: 830: 815: 811: 804: 794: 790: 779: 772: 751: 734: 730: 719: 677: 664: 659: 658: 603: 590: 577: 549: 525: 500: 495: 494: 489:standard normal 465: 464: 441: 428: 423: 422: 401: 388: 383: 382: 352: 327: 312: 304: 288: 263: 248: 240: 235: 234: 225: 190: 180: 127: 126: 123: 115: 113: 102: 98: 79: 67: 59: 52: 28: 23: 22: 15: 12: 11: 5: 1925: 1923: 1915: 1914: 1909: 1904: 1894: 1893: 1887: 1886: 1884: 1883: 1870: 1867: 1866: 1864: 1863: 1858: 1856:Municipal debt 1853: 1848: 1843: 1841:Corporate debt 1838: 1832: 1830: 1826: 1825: 1823: 1822: 1817: 1812: 1807: 1802: 1797: 1792: 1787: 1782: 1777: 1772: 1767: 1762: 1757: 1751: 1749: 1745: 1744: 1742: 1741: 1736: 1731: 1726: 1721: 1716: 1710: 1708: 1702: 1701: 1699: 1698: 1693: 1688: 1683: 1678: 1673: 1668: 1663: 1658: 1653: 1648: 1643: 1641:Forward market 1638: 1633: 1628: 1623: 1617: 1615: 1613: 1612: 1607: 1601: 1598: 1597: 1595: 1594: 1589: 1584: 1579: 1574: 1569: 1564: 1559: 1554: 1549: 1544: 1539: 1534: 1529: 1524: 1522:Credit default 1519: 1514: 1509: 1504: 1499: 1494: 1489: 1483: 1481: 1475: 1474: 1471: 1470: 1468: 1467: 1462: 1457: 1452: 1447: 1442: 1437: 1432: 1427: 1422: 1417: 1407: 1402: 1397: 1391: 1389: 1383: 1382: 1380: 1379: 1365: 1360: 1355: 1350: 1345: 1340: 1335: 1330: 1325: 1320: 1318:Iron butterfly 1315: 1310: 1305: 1300: 1295: 1290: 1288:Covered option 1285: 1280: 1275: 1270: 1265: 1260: 1254: 1252: 1246: 1245: 1243: 1242: 1237: 1232: 1227: 1226:Mountain range 1224: 1219: 1214: 1209: 1204: 1199: 1194: 1189: 1184: 1179: 1174: 1169: 1163: 1161: 1155: 1154: 1152: 1151: 1146: 1141: 1136: 1131: 1126: 1121: 1116: 1111: 1106: 1100: 1098: 1092: 1091: 1089: 1088: 1083: 1078: 1073: 1068: 1063: 1058: 1053: 1048: 1043: 1038: 1032: 1030: 1023: 1017: 1016: 1011: 1008: 1007: 1002: 1000: 999: 992: 985: 977: 969: 968: 962: 950: 949: 931: 930: 923:Google Scholar 915: 897: 890: 887: 886: 885: 875: 868: 863: 854: 846: 842: 833: 828: 819: 813: 809: 802: 797: 792: 788: 777: 770: 749: 732: 728: 718: 715: 714: 713: 712: 711: 697: 692: 689: 684: 680: 676: 671: 667: 656: 642: 637: 633: 629: 626: 623: 620: 616: 610: 606: 602: 597: 593: 589: 584: 580: 576: 573: 570: 567: 564: 561: 556: 552: 547: 543: 540: 537: 532: 528: 524: 521: 518: 515: 512: 507: 503: 492: 472: 462: 448: 444: 440: 435: 431: 408: 404: 400: 395: 391: 376: 375: 364: 359: 355: 351: 348: 345: 342: 339: 334: 330: 324: 319: 315: 311: 307: 303: 300: 295: 291: 287: 284: 281: 278: 275: 270: 266: 260: 255: 251: 247: 243: 223: 202: 197: 193: 187: 183: 179: 176: 171: 166: 162: 158: 153: 148: 144: 138: 135: 121: 111: 100: 96: 81:. The option, 77: 65: 57: 51: 48: 26: 24: 14: 13: 10: 9: 6: 4: 3: 2: 1924: 1913: 1910: 1908: 1905: 1903: 1900: 1899: 1897: 1882: 1877: 1872: 1871: 1868: 1862: 1859: 1857: 1854: 1852: 1849: 1847: 1844: 1842: 1839: 1837: 1836:Consumer debt 1834: 1833: 1831: 1829:Market issues 1827: 1821: 1818: 1816: 1813: 1811: 1808: 1806: 1805:Fund of funds 1803: 1801: 1798: 1796: 1793: 1791: 1788: 1786: 1783: 1781: 1778: 1776: 1773: 1771: 1768: 1766: 1763: 1761: 1758: 1756: 1753: 1752: 1750: 1746: 1740: 1737: 1735: 1732: 1730: 1727: 1725: 1722: 1720: 1717: 1715: 1712: 1711: 1709: 1707: 1703: 1697: 1694: 1692: 1689: 1687: 1684: 1682: 1679: 1677: 1674: 1672: 1669: 1667: 1664: 1662: 1659: 1657: 1654: 1652: 1649: 1647: 1646:Forward price 1644: 1642: 1639: 1637: 1634: 1632: 1629: 1627: 1624: 1622: 1619: 1618: 1616: 1611: 1608: 1606: 1603: 1602: 1599: 1593: 1590: 1588: 1585: 1583: 1580: 1578: 1575: 1573: 1570: 1568: 1565: 1563: 1560: 1558: 1557:Interest rate 1555: 1553: 1550: 1548: 1545: 1543: 1540: 1538: 1535: 1533: 1530: 1528: 1525: 1523: 1520: 1518: 1515: 1513: 1510: 1508: 1505: 1503: 1500: 1498: 1495: 1493: 1490: 1488: 1485: 1484: 1482: 1480: 1476: 1466: 1463: 1461: 1458: 1456: 1453: 1451: 1450:MC Simulation 1448: 1446: 1443: 1441: 1438: 1436: 1433: 1431: 1428: 1426: 1423: 1421: 1418: 1415: 1411: 1410:Black–Scholes 1408: 1406: 1403: 1401: 1398: 1396: 1393: 1392: 1390: 1388: 1384: 1377: 1373: 1369: 1366: 1364: 1363:Risk reversal 1361: 1359: 1356: 1354: 1351: 1349: 1346: 1344: 1341: 1339: 1336: 1334: 1331: 1329: 1326: 1324: 1321: 1319: 1316: 1314: 1311: 1309: 1306: 1304: 1301: 1299: 1296: 1294: 1293:Credit spread 1291: 1289: 1286: 1284: 1281: 1279: 1276: 1274: 1271: 1269: 1266: 1264: 1261: 1259: 1256: 1255: 1253: 1251: 1247: 1241: 1238: 1236: 1233: 1231: 1228: 1225: 1223: 1220: 1218: 1217:Interest rate 1215: 1213: 1212:Forward start 1210: 1208: 1205: 1203: 1200: 1198: 1195: 1193: 1190: 1188: 1185: 1183: 1180: 1178: 1175: 1173: 1170: 1168: 1165: 1164: 1162: 1160: 1156: 1150: 1147: 1145: 1142: 1140: 1139:Option styles 1137: 1135: 1132: 1130: 1127: 1125: 1122: 1120: 1117: 1115: 1112: 1110: 1107: 1105: 1102: 1101: 1099: 1097: 1093: 1087: 1084: 1082: 1079: 1077: 1074: 1072: 1069: 1067: 1064: 1062: 1059: 1057: 1056:Open interest 1054: 1052: 1049: 1047: 1044: 1042: 1039: 1037: 1036:Delta neutral 1034: 1033: 1031: 1027: 1024: 1022: 1018: 1014: 1009: 1005: 998: 993: 991: 986: 984: 979: 978: 975: 971: 967: 963: 961: 957: 956: 955: 954: 947: 943: 939: 938: 937: 936: 928: 924: 919: 916: 912: 908: 902: 899: 896: 895: 888: 883: 879: 871: 864: 861: 858:, volatility 857: 850: 838: 835:Applying the 834: 831: 824: 820: 817: 805: 798: 795: 784: 780: 773: 766: 765: 764: 762: 758: 753: 747: 746:interest rate 743: 739: 735: 724: 716: 695: 690: 687: 682: 678: 674: 669: 665: 657: 640: 635: 631: 624: 618: 614: 608: 604: 600: 595: 591: 587: 582: 578: 571: 562: 554: 550: 545: 538: 530: 526: 519: 516: 510: 505: 501: 493: 490: 486: 470: 463: 446: 442: 438: 433: 429: 406: 402: 398: 393: 389: 381: 380: 378: 377: 357: 353: 346: 340: 332: 328: 322: 317: 313: 309: 305: 301: 293: 289: 282: 276: 268: 264: 258: 253: 249: 245: 241: 233: 232: 231: 228: 226: 219: 200: 195: 191: 185: 181: 177: 174: 169: 164: 160: 156: 151: 146: 142: 136: 133: 124: 114: 106: 104: 92: 88: 84: 80: 73: 69: 61: 49: 47: 45: 41: 37: 33: 19: 1656:Forward rate 1567:Total return 1455:Real options 1439: 1358:Ratio spread 1338:Naked option 1298:Debit spread 1129:Fixed income 1071:Strike price 970: 952: 951: 934: 933: 918: 901: 893: 892: 873: 866: 859: 852: 840: 826: 807: 800: 786: 775: 768: 754: 737: 726: 720: 483:denotes the 229: 221: 217: 119: 109: 107: 94: 93:, is max(0, 90: 86: 82: 75: 71: 63: 55: 53: 35: 29: 1587:Zero Coupon 1517:Correlation 1465:Vanna–Volga 1323:Iron condor 1109:Bond option 823:call option 1896:Categories 1861:Tax policy 1577:Volatility 1487:Amortising 1328:Jelly roll 1263:Box spread 1258:Backspread 1250:Strategies 1086:Volatility 1081:the Greeks 1046:Expiration 953:Discussion 717:Derivation 1552:Inflation 1502:Commodity 1460:Trinomial 1395:Bachelier 1387:Valuation 1268:Butterfly 1202:Commodore 1051:Moneyness 783:numeraire 691:σ 688:− 636:σ 605:σ 588:− 520:⁡ 310:− 302:− 246:− 201:ρ 192:σ 182:σ 175:− 161:σ 143:σ 134:σ 1691:Slippage 1621:Contango 1605:Forwards 1572:Variance 1532:Dividend 1527:Currency 1440:Margrabe 1435:Lattices 1414:equation 1400:Binomial 1348:Strangle 1343:Straddle 1240:Swaption 1222:Lookback 1207:Compound 1149:Warrants 1124:European 1104:American 1096:Vanillas 1061:Pin risk 1041:Exercise 816:(T) - 1) 216:, where 54:Suppose 1610:Futures 1230:Rainbow 1197:Cliquet 1192:Chooser 1172:Barrier 1159:Exotics 1021:Options 379:where: 125:, then 99:(T) - S 50:Formula 1671:Margin 1537:Equity 1430:Heston 1333:Ladder 1283:Condor 1278:Collar 1235:Spread 1182:Binary 1177:Basket 860:σ 757:proven 738:σ 487:for a 218:ρ 120:σ 116:'s 40:option 38:is an 1542:Forex 1497:Basis 1492:Asset 1479:Swaps 1405:Black 1308:Fence 1167:Asian 1029:Terms 894:Notes 845:(0)/S 812:(T)/S 1376:Bull 1372:Bear 1114:Call 763:. 227:'s. 118:are 103:(T)) 91:C(T) 62:and 1144:Put 925:'s 878:(0) 849:(0) 781:as 105:. 68:(t) 60:(t) 30:In 1898:: 1374:, 1134:FX 944:, 909:, 791:/S 752:. 736:, 731:/S 517:ln 34:, 1416:) 1412:( 1378:) 1370:( 996:e 989:t 982:v 884:. 876:2 874:S 869:2 867:S 855:2 853:q 847:2 843:1 841:S 829:1 827:q 818:. 814:2 810:1 808:S 803:2 801:q 793:2 789:1 787:S 778:2 776:S 771:2 769:S 750:2 733:2 729:1 727:S 710:. 696:T 683:1 679:d 675:= 670:2 666:d 655:, 641:T 632:/ 628:) 625:T 622:) 619:2 615:/ 609:2 601:+ 596:1 592:q 583:2 579:q 575:( 572:+ 569:) 566:) 563:0 560:( 555:2 551:S 546:/ 542:) 539:0 536:( 531:1 527:S 523:( 514:( 511:= 506:1 502:d 491:, 471:N 447:2 443:S 439:, 434:1 430:S 407:2 403:q 399:, 394:1 390:q 363:) 358:2 354:d 350:( 347:N 344:) 341:0 338:( 333:2 329:S 323:T 318:2 314:q 306:e 299:) 294:1 290:d 286:( 283:N 280:) 277:0 274:( 269:1 265:S 259:T 254:1 250:q 242:e 224:i 222:S 196:2 186:1 178:2 170:2 165:2 157:+ 152:2 147:1 137:= 122:i 112:i 110:S 101:2 97:1 95:S 87:T 83:C 78:i 76:q 72:t 66:2 64:S 58:1 56:S 20:)

Index

William Margrabe
mathematical finance
option
William Margrabe
cumulative distribution function
standard normal
geometric Brownian motion
zero-coupon bond
interest rate
proven
Black-Scholes formula
numeraire
call option
Black-Scholes formula
Girsanov theorem
"The Value of an Option to Exchange One Asset for Another"
Journal of Finance
Google Scholar
"cites" page for this article
"The Value of an Option to Exchange One Asset for Another"
Journal of Finance
Multi-Asset Options
The Margrabe Formula
v
t
e
Derivatives market
Derivative (finance)
Options
Delta neutral

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