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An Empirical Examination of the Variance‐Gamma Model for Foreign Currency Options

Elton A. Daal and Dilip B. Madan
The Journal of Business
Vol. 78, No. 6 (November 2005), pp. 2121-2152
DOI: 10.1086/497039
Stable URL:
Page Count: 32
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We apply the variance‐gamma (VG) option‐pricing model to currency options. The model is a pure infinite‐activity jump model. We examine whether and to what extent this new model can improve the pricing quality for currency options over the existing modified Black‐Scholes model and the Merton jump‐diffusion (JD) model. We find that the VG model yields better out‐of‐sample pricing performance than the modified Black‐Scholes model or the JD model. In addition, a cross‐entropy analysis shows that the VG model is more consistent with the general criterion of utility maximization and optimal portfolio selection.

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