Incorporating a Volatility Smile into the Markov-Functional Model
Mathematical Finance
2014-04-25 v1 Pricing of Securities
Risk Management
Abstract
We study a Markov-Functional (MF) interest-rate model with Uncertain Volatility Displaced Diffusion (UVDD) digital mapping, which is consistent with the volatility-smile phenomenon observed in the option market. We first check the impact of pricing Bermudan swaptions by the model. Next, we also investigate the future smiles implied by the MF models and the smile dynamics implied by the UVDD model. Finally, we conduct hedging simulations against Bermudan swaptions to test extensively the hedge performance of this smile-consistenet MF model.
Cite
@article{arxiv.1404.6120,
title = {Incorporating a Volatility Smile into the Markov-Functional Model},
author = {Feijia Wang},
journal= {arXiv preprint arXiv:1404.6120},
year = {2014}
}
Comments
55 figures, 18 tables, Master thesis at the University of Twente by F. Wang, thesis supervisors: A. Bagchi, M.H. Vellekoop and D. Kandhai, 22 December 2006