Variance Swap Introduction

A variance swap is a forward contract on annualized variance, the square of the realized volatility. The holder of a variance swap at expiration receives a notional amount of dollar for every point by which the stock’s realized variance has exceeded the variance delivery price.

Valuation of the swap involves decomposition of the contract into two periods, one that has become historical, and the other with stock prices still unknown. The unknown variance from the value date to the swap maturity can be replicated by a portfolio of call and put options. Volatility skew can be incorporated into pricing of these options through bi-linear interpolation.

We developed pricing models for equity log forward contracts and variance swaps. The model for variance swaps can be used to calculate P&L and risk numbers.

This future realized variance can be replicated by a portfolio of call and put options with appropriate weights

Weights of the portfolio can be determined by many approaches. One such approach is called the slope method

If no reference strike price and option data are supplied, the model will use the strike that is closest to the base spot price in the volatility skew file corresponding to the closest time to maturity

Variance Swap Introduction

• Ref
• Zenodo variance pdf
• Zenodo variance
• archive forward
• github variance
• github local