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Physica A Statistical Mechanics and its Applications

Simulation of coupon bond European and barrier options in quantum finance

Belal Ehsan Baaquie, Tang Pan

Published Sep 9, 2010• 34 citations
Publisher
DOI
10.1016/j.physa.2010.08.046

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Quantum finance Hamiltonian for coupon bond European and barrier options

Belal Ehsan Baaquie

Coupon bond European and barrier options are financial derivatives that can be analyzed in the Hamiltonian formulation of quantum finance. Forward interest rates are modeled as a two-dimensional quantum field theory and its Hamiltonian and state space is defined. European and barrier options are realized as transition amplitudes of the time integrated Hamiltonian operator. The double barrier option for a financial instrument is "knocked out" (terminated with zero value) if the price of the underlying instrument exceeds or falls below preset limits; the barrier option is realized by imposing boundary conditions on the eigenfunctions of the forward interest rates' Hamiltonian. The price of the European coupon bond option and the zero coupon bond barrier option are calculated. It is shown that, is general, the constraint function for a coupon bond barrier option can -- to a good approximation -- be linearized. A calculation using an overcomplete set of eigenfunctions yields an approximate price for the coupon bond barrier option, which is given in the form of an integral of a factor that results from the barrier condition times another factor that arises from the payoff function.

Physical Review E•Mar 5, 2008•9 citations
Coupon bond European and barrier options are financial derivatives that can be analyzed in the Hamiltonian formulation of quantum finance. Forward interest rates are modeled as a two-dimensional quantum field theory and its Hamiltonian and state space is defined. European and barrier options are realized as transition amplitudes of the time integrated Hamiltonian operator. The double barrier option for a financial instrument is "knocked out" (terminated with zero value) if the price of the underlying instrument exceeds or falls below preset limits; the barrier option is realized by imposing boundary conditions on the eigenfunctions of the forward interest rates' Hamiltonian. The price of the European coupon bond option and the zero coupon bond barrier option are calculated. It is shown that, is general, the constraint function for a coupon bond barrier option can -- to a good approximation -- be linearized. A calculation using an overcomplete set of eigenfunctions yields an approximate price for the coupon bond barrier option, which is given in the form of an integral of a factor that results from the barrier condition times another factor that arises from the payoff function.