Title: Smoothing the volatility smile using the Corrado-Su model

Authors: Vinicius Mothé Maia; Antonio Carlos Figueiredo Pinto; Marcelo Cabus Klotzle

Addresses: IAG- Escola de Negócios, Pontifical Catholic University of Rio de Janeiro, Rua Marquês de São Vicente, 225, Gávea, Rio de Janeiro, RJ, 22451-900, Brazil ' IAG- Escola de Negócios, Pontifical Catholic University of Rio de Janeiro, Rua Marquês de São Vicente, 225, Gávea, Rio de Janeiro, RJ, 22451-900, Brazil ' IAG- Escola de Negócios, Pontifical Catholic University of Rio de Janeiro, Rua Marquês de São Vicente, 225, Gávea, Rio de Janeiro, RJ, 22451-900, Brazil

Abstract: The objective of the model suggested by Corrado and Su and improved by Brown and Robinson, is to adapt the Black and Scholes model to the distribution of the asset intended for pricing by introducing the returns' kurtosis and skewness. For this reason, it is expected that the model will be more apt for calculating implied volatility in order to reduce the volatility smile. The purpose of this paper is to show which window of observation generates the kurtosis and skewness that smoothes the volatility smile the most, using the Corrado-Su model. The companies chosen for the study were Petrobrás PN and Vale PNA because their stocks and options are the most liquid on the Brazilian market. The data analysis indicated a smoother volatility smile using short term observation windows rather than long term windows and a performance of earlier windows equivalent to those of the Black-Scholes model.

Keywords: option pricing; Corrado-Su; Black-Scholes; implied volatility; volatility smile; kurtosis; skewness; Brazil.

DOI: 10.1504/IJFMD.2015.069983

International Journal of Financial Markets and Derivatives, 2015 Vol.4 No.2, pp.180 - 194

Available online: 19 Jun 2015 *

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