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The
application of Monte Carlo methodology enables to generate simulated
patterns of selected variables. Monte Carlo simulation techniques
have found vast application in finance. They can be used to estimate
portfolio risk exposure according to the Value at Risk (VaR) methodology
and to derive estimates of the fair value of option contracts under
a wide range of circumstances.
Some
examples:
You can use Monte Carlo simulations to estimate the fair
price of quanto’d Asian options whose payoff depends on a basket
of stocks. To take into account that the option under consideration is
quanto’d in a currency different from the currency in which the option
is traded the drift rate of the underlying stock process must be duly adjusted.
This method is also valid, in an asymptotic fashion, for valuing options for
which analytical pricing formulas are also available, such as plain vanilla or
barrier options on single stocks.
Asian Option on a Basket xls
Barrier Option (Call KO) xls
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