Model[Inflation_Option]__Pricing_Method

Available

Corresponds to the QuantLib InterpolatingCPICapFloor Engine.

Currently QuantLib does not provide a volatility based pricing methodology.

The user must supply already known market prices of several calls and puts.

The inflation option price is calculated by applying interpolation and put/call parity on a set of market-quoted inflation option prices.

More specifically, the pricing scheme requires that two sets of market prices are available:

A set of calls (i.e. options on receiver inflation swaps) and a set of puts (i.e. options on payer inflation swaps).

Each set spans various "expiry-strike" combinations, where "expiry", "strike" refer to the maturity, fixed rate of the underlying zero coupon inflation swaps.

Testing has revealed that this method returns prices that slightly violate put/call parity if the underlying swap is priced independently.

This is a natural consequence of the way option prices are calculated, namely through interpolation among the provided market prices.

One way to restore put/call parity is to calculate the underlying swap price as the difference between the respective call and put.