Abstract:How to price and hedge claims on nontraded assets are becoming increasingly important matters in option pricing theory today. The most common practice to deal with these issues is to use another similar or 'closely related' asset or index which is traded, for hedging purposes. Implicitly, traders assume here that the higher the correlation between the traded and nontraded assets, the better the hedge is expected to perform. This raises the question as to how 'closely related' the assets really are. In this pap… Show more
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