Detail publikace

Valuation of Convexity Related Derivatives

Autor: RNDr. Jiří Witzany Ph.D.,
Typ: IES Working Papers
Rok: 2008
Číslo: 4
ISSN / ISBN:
Publikováno v: IES Working Papers 4/2008
Místo vydání: Prague
Klíčová slova: interest rate derivatives, Libor in arrears, constant maturity swap, valuation models, convexity adjustment
JEL kódy: C13, E43, E47, G13
Citace: Witzany, J. (2008). “ Valuation of Convexity Related Derivatives ” IES Working Paper 4/2008. IES FSV. Charles University.
Abstrakt: We will investigate valuation of derivatives with payoff defined as a nonlinear though close to linear function of tradable underlying assets. Derivatives involving Libor or swap rates in arrears, i.e. rates paid in a wrong time, are a typical example. It is generally tempting to replace the future unknown interest rates with the forward rates. We will show rigorously that indeed this is not possible in the case of Libor or swap rates in arrears. We will introduce formally the notion of plain vanilla derivatives as those that can be replicated by a finite set of elementary operations and show that derivatives involving the rates in arrears are not plain vanilla. We will also study the issue of valuation of such derivatives. Beside the popular convexity adjustment formula, we will develop an improved two or more variable adjustment formula applicable in particular on swap rates in arrears. Finally, we will get a precise fully analytical formula based on the usual assumption of log-normality of the relevant tradable underlying assets applicable to a wide class of convexity related derivatives. We will illustrate the techniques and different results on a case study of a real life controversial exotic swap.
Ke stažení: WP 2008_04_Witzany

Partneři

ČSOB
Deloitte
McKinsey & Company

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