A Wall Street Trading Firm Is Using a Jump-Diffusion Model $- 2 \%$

question 26

Multiple Choice

A Wall Street trading firm is using a jump-diffusion model to price their index options. They determine that the arrival rate of jumps in the market is 4 times a year, and that the jumps have a mean size of $- 2 \%$ and standard deviation of 10%. If the implied volatility of the stock index is 40%, what is the diffusion parameter ( $\sigma$ ) that they should use in their model?

• A) 0.35
• B) 0.40
• C) 0.45
• D) 0.50

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