General Equilibrium and Risk Neutral Valuation Framework for Option Pricing with Mixture of Distributions

This paper develops a closed form risk-neutral valuation model for pricing European style options when the underlying has a mixture of transformed-normal distributions. Specifically, we introduce the mixture of g distributions, which contains the mixture of normal and lognormal distributions as a special case. The risk neutral valuation relation is developed following Rubinstein (1976), Brennan (1979) and Camara (2003). Our model encompasses several well known models, and is particularly useful for pricing derivatives written on illiquid assets, and derivatives that are themselves illiquid