simByEuler

Simulate Bates sample paths by Euler approximation

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Syntax

[Paths,Times,Z,N] = simByEuler(MDL,NPeriods)
[Paths,Times,Z,N] = simByEuler(___,Name,Value)

Description

[Paths,Times,Z,N] = simByEuler(MDL,NPeriods) simulates NTrials sample paths of Bates bivariate models driven by NBrowns Brownian motion sources of risk and NJumps compound Poisson processes representing the arrivals of important events over NPeriods consecutive observation periods. The simulation approximates continuous-time stochastic processes by the Euler approach.

example

[Paths,Times,Z,N] = simByEuler(___,Name,Value) specifies options using one or more name-value pair arguments in addition to the input arguments in the previous syntax.

You can perform quasi-Monte Carlo simulations using the name-value arguments for MonteCarloMethod, QuasiSequence, and BrownianMotionMethod. For more information, see Quasi-Monte Carlo Simulation.

example

Examples

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Open Live Script

Create a bates object.

AssetPrice = 80;
            Return = 0.03;
            JumpMean = 0.02;
            JumpVol = 0.08;
            JumpFreq = 0.1;
            
            V0 = 0.04;
            Level = 0.05;
            Speed = 1.0;
            Volatility = 0.2;
            Rho = -0.7;
            StartState = [AssetPrice;V0]; 
            Correlation = [1 Rho;Rho 1];

batesObj = bates(Return, Speed, Level, Volatility,...
                JumpFreq, JumpMean, JumpVol,'startstate',StartState,...
                'correlation',Correlation)
batesObj = 
   Class BATES: Bates Bivariate Stochastic Volatility
   --------------------------------------------------
     Dimensions: State = 2, Brownian = 2
   --------------------------------------------------
      StartTime: 0
     StartState: 2x1 double array 
    Correlation: 2x2 double array 
          Drift: drift rate function F(t,X(t)) 
      Diffusion: diffusion rate function G(t,X(t)) 
     Simulation: simulation method/function simByEuler
         Return: 0.03
          Speed: 1
          Level: 0.05
     Volatility: 0.2
       JumpFreq: 0.1
       JumpMean: 0.02
        JumpVol: 0.08

Use simByEuler to simulate NTrials sample paths of this Bates bivariate model driven by NBrowns Brownian motion sources of risk and NJumps compound Poisson processes representing the arrivals of important events over NPeriods consecutive observation periods. This function approximates continuous-time stochastic processes by the Euler approach.

NPeriods = 2;
[Paths,Times,Z,N] = simByEuler(batesObj,NPeriods)
Paths = 3×2

   80.0000    0.0400
   90.8427    0.0873
   32.7458    0.1798


Times = 3×1

     0
     1
     2


Z = 2×2

    0.5377    0.9333
   -2.2588    2.1969


N = 2×1

     0
     0

The output Paths is 3 x 2 dimension. Row number 3 is from NPeriods + 1. The first row is defined by the bates name-value pair argument StartState. The remaining rows are simulated data. Paths always has two columns because the Bates model is a bivariate model. In this case, the first column is the simulated asset price and the second column is the simulated volatilities.

Open Live Script

Create a bates object.

AssetPrice = 80;
            Return = 0.03;
            JumpMean = 0.02;
            JumpVol = 0.08;
            JumpFreq = 0.1;
            
            V0 = 0.04;
            Level = 0.05;
            Speed = 1.0;
            Volatility = 0.2;
            Rho = -0.7;
            StartState = [AssetPrice;V0]; 
            Correlation = [1 Rho;Rho 1];

batesObj = bates(Return, Speed, Level, Volatility,...
                JumpFreq, JumpMean, JumpVol,'startstate',StartState,...
                'correlation',Correlation)
batesObj = 
   Class BATES: Bates Bivariate Stochastic Volatility
   --------------------------------------------------
     Dimensions: State = 2, Brownian = 2
   --------------------------------------------------
      StartTime: 0
     StartState: 2x1 double array 
    Correlation: 2x2 double array 
          Drift: drift rate function F(t,X(t)) 
      Diffusion: diffusion rate function G(t,X(t)) 
     Simulation: simulation method/function simByEuler
         Return: 0.03
          Speed: 1
          Level: 0.05
     Volatility: 0.2
       JumpFreq: 0.1
       JumpMean: 0.02
        JumpVol: 0.08

Define the quasi-Monte Carlo simulation using the optional name-value arguments for 'MonteCarloMethod','QuasiSequence', and 'BrownianMotionMethod'.

[paths,time,z] = simByEuler(batesObj,10,'ntrials',4096,'montecarlomethod','quasi','quasisequence','sobol','BrownianMotionMethod','principal-components');

Input Arguments

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Stochastic differential equation model, specified as a bates object. You can create a bates object using bates.

Data Types: object

Number of simulation periods, specified as a positive scalar integer. The value of NPeriods determines the number of rows of the simulated output series.

Data Types: double

Name-Value Arguments

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Specify optional pairs of arguments as Name1=Value1,...,NameN=ValueN, where Name is the argument name and Value is the corresponding value. Name-value arguments must appear after other arguments, but the order of the pairs does not matter.

Before R2021a, use commas to separate each name and value, and enclose Name in quotes.

Example: [Paths,Times,Z,N] = simByEuler(bates,NPeriods,'DeltaTime',dt)

Simulated trials (sample paths) of NPeriods observations each, specified as the comma-separated pair consisting of 'NTrials' and a positive scalar integer.

Data Types: double

Positive time increments between observations, specified as the comma-separated pair consisting of 'DeltaTime' and a scalar or an NPeriods-by-1 column vector.

DeltaTime represents the familiar dt found in stochastic differential equations, and determines the times at which the simulated paths of the output state variables are reported.

Data Types: double

Number of intermediate time steps within each time increment dt (specified as DeltaTime), specified as the comma-separated pair consisting of 'NSteps' and a positive scalar integer.

The simByEuler function partitions each time increment dt into NSteps subintervals of length dt/NSteps, and refines the simulation by evaluating the simulated state vector at NSteps − 1 intermediate points. Although simByEuler does not report the output state vector at these intermediate points, the refinement improves accuracy by allowing the simulation to more closely approximate the underlying continuous-time process.

Data Types: double

Flag to use antithetic sampling to generate the Gaussian random variates that drive the Brownian motion vector (Wiener processes), specified as the comma-separated pair consisting of 'Antithetic' and a scalar numeric or logical 1 (true) or 0 (false).

When you specify true, simByEuler performs sampling such that all primary and antithetic paths are simulated and stored in successive matching pairs:

  • Odd trials (1,3,5,...) correspond to the primary Gaussian paths.

  • Even trials (2,4,6,...) are the matching antithetic paths of each pair derived by negating the Gaussian draws of the corresponding primary (odd) trial.

Note

If you specify an input noise process (see Z), simByEuler ignores the value of Antithetic.

Data Types: logical

Direct specification of the dependent random noise process for generating the Brownian motion vector (Wiener process) that drives the simulation, specified as the comma-separated pair consisting of 'Z' and a function or as an (NPeriods ⨉ NSteps)-by-NBrowns-by-NTrials three-dimensional array of dependent random variates.

Note

If you specify Z as a function, it must return an NBrowns-by-1 column vector, and you must call it with two inputs:

  • A real-valued scalar observation time t

  • An NVars-by-1 state vector Xt

Data Types: double | function

Dependent random counting process for generating the number of jumps, specified as the comma-separated pair consisting of 'N' and a function or an (NPeriods ⨉ NSteps) -by-NJumps-by-NTrials three-dimensional array of dependent random variates.

Note

If you specify a function, N must return an NJumps-by-1 column vector, and you must call it with two inputs: a real-valued scalar observation time t followed by an NVars-by-1 state vector Xt.

Data Types: double | function

Flag that indicates how the output array Paths is stored and returned, specified as the comma-separated pair consisting of 'StorePaths' and a scalar numeric or logical 1 (true) or 0 (false).

  • If StorePaths is true (the default value) or is unspecified, simByEuler returns Paths as a three-dimensional time-series array.

  • If StorePaths is false (logical 0), simByEuler returns Paths as an empty matrix.

Data Types: logical

Monte Carlo method to simulate stochastic processes, specified as the comma-separated pair consisting of 'MonteCarloMethod' and a string or character vector with one of the following values:

  • "standard" — Monte Carlo using pseudo random numbers

  • "quasi" — Quasi-Monte Carlo using low-discrepancy sequences

  • "randomized-quasi" — Randomized quasi-Monte Carlo

Note

If you specify an input noise process (see Z and N), simByEuler ignores the value of MonteCarloMethod.

Data Types: string | char

Low discrepancy sequence to drive the stochastic processes, specified as the comma-separated pair consisting of 'QuasiSequence' and a string or character vector with the following value:

  • "sobol" — Quasi-random low-discrepancy sequences that use a base of two to form successively finer uniform partitions of the unit interval and then reorder the coordinates in each dimension.

Note

If MonteCarloMethod option is not specified or specified as"standard", QuasiSequence is ignored.

Data Types: string | char

Brownian motion construction method, specified as the comma-separated pair consisting of 'BrownianMotionMethod' and a string or character vector with one of the following values:

  • "standard" — The Brownian motion path is found by taking the cumulative sum of the Gaussian variates.

  • "brownian-bridge" — The last step of the Brownian motion path is calculated first, followed by any order between steps until all steps have been determined.

  • "principal-components" — The Brownian motion path is calculated by minimizing the approximation error.

Note

If an input noise process is specified using the Z input argument, BrownianMotionMethod is ignored.

The starting point for a Monte Carlo simulation is the construction of a Brownian motion sample path (or Wiener path). Such paths are built from a set of independent Gaussian variates, using either standard discretization, Brownian-bridge construction, or principal components construction.

Both standard discretization and Brownian-bridge construction share the same variance and, therefore, the same resulting convergence when used with the MonteCarloMethod using pseudo random numbers. However, the performance differs between the two when the MonteCarloMethod option "quasi" is introduced, with faster convergence for the "brownian-bridge" construction option and the fastest convergence for the "principal-components" construction option.

Data Types: string | char

Sequence of end-of-period processes or state vector adjustments, specified as the comma-separated pair consisting of 'Processes' and a function or cell array of functions of the form

Xt=P(t,Xt)

The simByEuler function runs processing functions at each interpolation time. The functions must accept the current interpolation time t, and the current state vector Xt and return a state vector that can be an adjustment to the input state.

If you specify more than one processing function, simByEuler invokes the functions in the order in which they appear in the cell array. You can use this argument to specify boundary conditions, prevent negative prices, accumulate statistics, and plot graphs.

The end-of-period Processes argument allows you to terminate a given trial early. At the end of each time step, simByEuler tests the state vector Xt for an all-NaN condition. Thus, to signal an early termination of a given trial, all elements of the state vector Xt must be NaN. This test enables you to define a Processes function to signal early termination of a trial, and offers significant performance benefits in some situations (for example, pricing down-and-out barrier options).

Data Types: cell | function

Output Arguments

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Simulated paths of correlated state variables, returned as an (NPeriods + 1)-by-NVars-by-NTrials three-dimensional time series array.

For a given trial, each row of Paths is the transpose of the state vector Xt at time t. When StorePaths is set to false, simByEuler returns Paths as an empty matrix.

Observation times associated with the simulated paths, returned as an (NPeriods + 1)-by-1 column vector. Each element of Times is associated with the corresponding row of Paths.

Dependent random variates for generating the Brownian motion vector (Wiener processes) that drive the simulation, returned as an (NPeriods ⨉ NSteps)-by-NBrowns-by-NTrials three-dimensional time-series array.

Dependent random variates used to generate the jump counting process vector, returned as an (NPeriods ⨉ NSteps)-by-NJumps-by-NTrials three-dimensional time series array.

More About

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Algorithms

Bates models are bivariate composite models. Each Bates model consists of two coupled univariate models.

  • One model is a geometric Brownian motion (gbm) model with a stochastic volatility function and jumps.

    dX1t=B(t)X1tdt+X2tX1tdW1t+Y(t)X1tdNt

    This model usually corresponds to a price process whose volatility (variance rate) is governed by the second univariate model.

  • The other model is a Cox-Ingersoll-Ross (cir) square root diffusion model.

    dX2t=S(t)[L(t)−X2t]dt+V(t)X2tdW2t

    This model describes the evolution of the variance rate of the coupled Bates price process.

This simulation engine provides a discrete-time approximation of the underlying generalized continuous-time process. The simulation is derived directly from the stochastic differential equation of motion. Thus, the discrete-time process approaches the true continuous-time process only as DeltaTime approaches zero.

References

[1] Deelstra, Griselda, and Freddy Delbaen. “Convergence of Discretized Stochastic (Interest Rate) Processes with Stochastic Drift Term.” Applied Stochastic Models and Data Analysis, Vol. 14, No. 1, 1998, pp. 77–84.

[2] Higham, Desmond, and Xuerong Mao. “Convergence of Monte Carlo Simulations Involving the Mean-Reverting Square Root Process.” The Journal of Computational Finance, Vol. 8, No. 3, (2005): 35–61.

[3] Lord, Roger, Remmert Koekkoek, and Dick Van Dijk. “A Comparison of Biased Simulation Schemes for Stochastic Volatility Models.” Quantitative Finance, Vol. 10, No. 2 (February 2010): 177–94.

Version History

Introduced in R2020a

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See Also

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