  The Heston model stands out from the class of stochastic volatility (SV)
models mainly for two reasons. Firstly, the process for the volatility is
non-negative and mean-reverting, which is what we observe in the markets.
Secondly, there exists a fast and easily implemented semi-analytical solution
for European options. In this article we adapt the original work of Heston
(1993) to a foreign exchange (FX) setting. We discuss the computational aspects
of using the semi-analytical formulas, performing Monte Carlo simulations,
checking the Feller condition, and option pricing with FFT. In an empirical
study we show that the smile of vanilla options can be reproduced by suitably
calibrating three out of five model parameters.
