Quadratic Volatility Models Applied to the Pricing of European Options

Abstract

In this thesis we derive a general framework for calibrating quadratic local volatility models in financial asset modelling. The method is first considered for constructed fictional data sets. Strengths and weaknesses of the method are studied thoroughly in this setting. We then apply our calibration method on stock market data, and use it to price European call options. The results of this are compared to actual option chains on the stocks in question as well as the cruder Black-Scholes prices for these stocks. We end the thesis with a discussion on further development of the quadratic volatility model.