Arbeitspapier
Pricing interest rate derivatives under volatility uncertainty
We study the pricing of contracts in fixed income markets in the presence of volatility uncertainty. We consider an arbitrage-free bond market under volatility uncertainty. The uncertainty about the volatility is modeled by a G-Brownian motion, which drives the forward rate dynamics. The absence of arbitrage is ensured by a drift condition. In such a setting we obtain a sublinear pricing measure for additional contracts. Similar to the forward measure approach, we define a forward sublinear expectation to simplify the valuation of cash ows. Under the forward sublinear expectation, we obtain a robust version of the expectations hypothesis and a valuation method for bond options. With these tools, we derive robust pricing rules for the most common interest rate derivatives: fixed coupon bonds, oating rate notes, interest rate swaps, swaptions, caps, and oors. For fixed coupon bonds, oating rate notes, and interest rate swaps, we obtain a single price, which is the same as in traditional models. For swaptions, caps, and oors, we obtain a range of prices, which is bounded by the prices from traditional models with the highest and lowest possible volatility. Due to these pricing formulas, the model naturally exhibits unspanned stochastic volatility.
- Language
-
Englisch
- Bibliographic citation
-
Series: Center for Mathematical Economics Working Papers ; No. 633
- Classification
-
Wirtschaft
Asset Pricing; Trading Volume; Bond Interest Rates
Contingent Pricing; Futures Pricing; option pricing
- Subject
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Robust Finance
Model Uncertainty
Fixed Income Markets
- Event
-
Geistige Schöpfung
- (who)
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Holzermann, Julian
- Event
-
Veröffentlichung
- (who)
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Bielefeld University, Center for Mathematical Economics (IMW)
- (where)
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Bielefeld
- (when)
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2020
- Handle
- URN
-
urn:nbn:de:0070-pub-29417724
- Last update
-
10.03.2025, 11:42 AM CET
Data provider
ZBW - Deutsche Zentralbibliothek für Wirtschaftswissenschaften - Leibniz-Informationszentrum Wirtschaft. If you have any questions about the object, please contact the data provider.
Object type
- Arbeitspapier
Associated
- Holzermann, Julian
- Bielefeld University, Center for Mathematical Economics (IMW)
Time of origin
- 2020
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Numerical advances in pricing forward volatility sensitive equity derivatives
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Essays on asset pricing and volatility derivatives
Consistent pricing and hedging volatility derivatives with two volatility surfaces
Interest rate dynamics, derivatives pricing, and risk management
Quantifying correlation uncertainty risk in credit derivatives pricing
Numerical advances in pricing forward volatility sensitive equity derivatives
The Pricing of Derivatives on Assets with Quadratic Volatility
A discrete-time two-factor model for pricing bonds and interest rate derivatives under random volatility
Pricing interest rate derivatives : a fourier transform based approach
Interest rate factor models : term structure dynamics and derivatives pricing