Pricing Onion Options: A Probabilistic Approach

Thorsten Upmann
2013 International Journal of Financial Research  
As argued by Ebenfeld, Mayr and Topper (2002), Onion options may be decomposed into one-touch double barrier binary options (ODBs). Using this idea, these authors provide an arbitrage-free pricing formula for Onion options within the Black-Scholes framework. Their approach rests upon solving the underlying partial differential equation. In this paper, we take an alternative and more direct route: Based on a probabilistic approach, we compute the risk-neutral valuation formula for an ODB. Then,
more » ... y inverting the decomposition of an Onion option, we are able to derive an alternative pricing formula for this type of an option.
doi:10.5430/ijfr.v4n4p11 fatcat:ogtqjjzmwjbchoiiliv3ebjwxu