Hi,I've been looking at analytic approximations to price baskets such as Ju, Levy, Milevsky & Posner, Rudd & Jarrow, etc. However all of these techniques do not seem to incorporate the volatility smile into the price. Has anyone come across an analytic price incorporating smile or for example how to incorporate the implied volatility for each underlying into these methods? I am particulary considering FX baskets.Alternatively is there anything equivalent to the traders rule (Vega-Volga-Vanna method) for approximating the smile impact for a basket? I would love to know how this problem is solved in practice (or maybe in practice people aren't concerned with an analytic way of incorporating implied volatility into the basket price?).Grateful for your thoughts/experience.

Hi,Have you seen http://www.damianobrigo.it/basketkli.pdf?The authors find an analytical (approximation to the) price of a basket option with time-depedant vols and continuous dividend (ie, foreign interest rate).

Thank you, I hadn't come across this paper before.Again though, this looks like it is in Black-Scholes world - still trying to find something that approximates the smile impact

Thank you, I hadn't come across this paper before.Again though, this looks like it is in Black-Scholes world - still trying to find something that approximates the smile impact

Sorry, poor Internet connection have posted twice in error

QuoteOriginally posted by: Girl26point2Thank you, I hadn't come across this paper before.Again though, this looks like it is in Black-Scholes world - still trying to find something that approximates the smile impactIt will become much more complicated if you want to consider the volatility smile.I find that quicklyClosed-form valuations of basket options using a multivariate normal inverse Gaussian model I found the abstract of a symposium in may about multivariate heston model for the pricing of basket option but didn't manage to put a hand on the proceeding. abstractYou can try to contact this guy if you want but anyway I fear it would be a VERY complicated model.

might be a lame answer, just tryingWe can get the volatility surface for the basket if we have volatility surfaces of the basket components (by applying correlation)using implied volatility trinomial tree method (by derman and Kani) price of the options could be calculated.