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A Term Structure Model and the Pricing of Interest Rate Derivative

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Author Info
K. Sandmann
Sondermann, D.

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Abstract

The paper developes a general arbitrage free model for the term structure of interest rates. The principal model is formulated in a discrete time structure. It differs substantially from the Ho--Lee-- Model (1986) and does not generate negative spot and forward rates. The results for the continuous time limit support this. The probability distribution with finite support is derived for the spot rate return. The model permits the arbitrage free valuation of bond options and interest rate options and produces dynamic portfolio strategies to duplicate these contracts.

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File URL: ftp://web.bgse.uni-bonn.de/pub/RePEc/bon/bonsfb/bonsfb180.ps
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Publisher Info
Paper provided by University of Bonn, Germany in its series Discussion Paper Serie B with number 180.

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Date of creation: Mar 1993
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Handle: RePEc:bon:bonsfb:180

Contact details of provider:
Postal: Bonn Graduate School of Economics, University of Bonn, Adenauerallee 24 - 26, 53113 Bonn, Germany
Fax: +49 228 73 9221
Web page: http://www.bgse.uni-bonn.de/index.php?id=517

For technical questions regarding this item, or to correct its listing, contact: (Daniel Park).

Related research
Keywords: Arbitrage; Hedging; Interest Rate; Martingale Measure; Option Pricing; Term Structure;

Find related papers by JEL classification:
G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

  1. Sandmann,Klaus, . "An intertemporal interest rate market model: Complete markets," Discussion Paper Serie B 94, University of Bonn, Germany.
  2. Heath, David & Jarrow, Robert & Morton, Andrew, 1992. "Bond Pricing and the Term Structure of Interest Rates: A New Methodology for Contingent Claims Valuation," Econometrica, Econometric Society, vol. 60(1), pages 77-105, January. [Downloadable!] (restricted)
  3. Robert C. Merton, 1973. "Theory of Rational Option Pricing," Bell Journal of Economics, The RAND Corporation, vol. 4(1), pages 141-183, Spring. [Downloadable!] (restricted)
  4. Sandmann,Klaus & Sondermann,Dieter, . "Zur Bewertung von Caps und Floors," Discussion Paper Serie B 98, University of Bonn, Germany.
  5. Hull, John & White, Alan, 1990. "Pricing Interest-Rate-Derivative Securities," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 3(4), pages 573-92. [Downloadable!] (restricted)
  6. Sandmann,Klaus & Sondermann,Dieter, . "A term structure model and the pricing of interest rate options," Discussion Paper Serie B 129, University of Bonn, Germany.
  7. Sandmann,Klaus, . "The pricing of options with an uncertain interest rate: A discrete time approach," Discussion Paper Serie B 114, University of Bonn, Germany.
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Phelim P. Boyle & Ken Seng Tan & Weidong Tian, 2001. "Calibrating the Black-Derman-Toy model: some theoretical results," Applied Mathematical Finance, Taylor and Francis Journals, vol. 8(1), pages 27-48, March. [Downloadable!] (restricted)
  2. Schlögl, Erik & Daniel Sommer, 1994. "On Short Rate Processes and Their Implications for Term Structure Movements," Discussion Paper Serie B 293, University of Bonn, Germany. [Downloadable!]
  3. D. Sondermann & K. Miltersen, 1994. "Closed Form Term Structure Derivatives in a Heath-Jarrow- Morton Model with Log-Normal Annually Compounded Interest Rates," Discussion Paper Serie B 285, University of Bonn, Germany. [Downloadable!]
  4. Goldys, B. & M. Musiela & D. Sondermann, 1996. "Lognormality of Rates and Term Structure Models," Discussion Paper Serie B 394, University of Bonn, Germany. [Downloadable!]
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