A new well-posed algorithm to recover implied local volatility

Abstract

This paper presents a new algorithm to calibrate the option pricing model, i.e. the algorithm that recovers the implied local volatility function from market option prices in the optimal control framework. A unique optimal control is shown to exist. Our algorithm is well-posed. Our numerical experiments show that, with the help of the techniques developed in the field of optimal control, the local volatility function is recovered very well.