TY - JOUR T1 - Practical Applications of Analytical Valuation of Compound Options Under Regime-Switching Dynamics JF - Practical Applications DO - 10.3905/pa.2022.pa479 SP - pa.2022.pa479 AU - Michèle Breton AU - Mbaye Ndoye Y1 - 2022/02/16 UR - https://pm-research.com/content/early/2022/02/14/pa.2022.pa479.abstract N2 - Evaluating investment products based on compound options or callable securities necessitates complex econometric modeling based on many nested scenarios. This method of analysis is not only complex but also time-consuming and costly.In Analytical Valuation of Compound Options Under Regime-Switching Dynamics, from the Winter 2021 issue of The Journal of Derivatives, authors Michèle Breton (HEC Montréal) and Mbaye Ndoye (PSP Investments), present a better way to evaluate securities based on compound options, rather than complex economic modeling. Their research shows that a single analytical formula derived for compound options under a regime-switching log-normal model (one that can capture the movement of stock prices from a low-volatility regime to a high-volatility regime, or the other way around) can replace traditional scenario analysis. Principal-protected callable notes (PPCNs) are analyzed to establish that the resultant pricing formula is more efficient and reduces the significant pricing errors that can result from using traditional procedures like Monte Carlo simulation. ER -