Option Valuation with Observable Volatility and Jump Dynamics

Under very general conditions, the total quadratic variation of a jump-diffusion process can be decomposed into diffusive volatility and squared jump variation. We use this result to develop a new option valuation model in which the underlying asset price exhibits volatility and jump intensity dynamics. The volatility and jump intensity dynamics in the model are directly driven by model-free empirical measures of diffusive volatility and jump …