On the numerical stability of simulation methods for SDEs under multiplicative noise in finance

Eckhard Platen*, Lei Shi

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

2 Citations (Scopus)


When simulating discrete-time approximations of solutions of stochastic differential equations (SDEs), in particular martingales, numerical stability is clearly more important than some higher order of convergence. Discrete-time approximations of solutions of SDEs with multiplicative noise, similar to the Black-Scholes model, are widely used in simulation in finance. The stability criterion presented in this paper is designed to handle both scenario simulation and Monte Carlo simulation, i.e. both strong and weak approximations. Methods are identified that have the potential to overcome some of the numerical instabilities experienced when using the explicit Euler scheme. This is of particular importance in finance, where martingale dynamics arise frequently and the diffusion coefficients are often multiplicative. Stability regions for a range of schemes are visualized and analysed to provide a methodology for a better understanding of the numerical stability issues that arise from time to time in practice. The result being that schemes that have implicitness in the approximations of both the drift and the diffusion terms exhibit the largest stability regions. Most importantly, it is shown that by refining the time step size one can leave a stability region and may face numerical instabilities, which is not what one is used to experiencing in deterministic numerical analysis.

Original languageEnglish
Pages (from-to)183-194
Number of pages12
JournalQuantitative Finance
Issue number2
Publication statusPublished - Feb 2013
Externally publishedYes


  • Implicit methods
  • Monte Carlo simulation
  • Numerical stability
  • Predictor-corrector methods
  • Scenario simulation
  • Stochastic differential equations


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