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Valuation of Path-Dependent Interest Rate Derivatives in a Finite Difference Setup

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Author Info
Svenstrup, Mikkel () (Department of Finance, Aarhus School of Business)
Abstract

In this paper we study and implement a finite difference version of the augmented

state variable approach proposed by Hull & White (1993) that allows for pathdependent

securities. We apply the method to a class of path-dependent interest

rate derivatives and consider several examples including mortgage backed securities

and collateralized mortgage obligations. The efficiency of the method is assessed in

a comparative study with Monte Carlo simulation and we find it to be faster for a

similar accuracy.

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Publisher Info
Paper provided by University of Aarhus, Aarhus School of Business, Department of Business Studies in its series Finance Working Papers with number 02-21.

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Length: 20 pages
Date of creation: 09 May 2003
Date of revision:
Handle: RePEc:hhb:aarfin:2002_021

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Postal: The Aarhus School of Business, Fuglesangs Allé 4, DK-8210 Aarhus V, Denmark
Fax: + 45 86 15 19 43
Web page: http://www.asb.dk/about/departments/bs.aspx
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Related research
Keywords: Path-dependent Options; Finite Difference; Mortgage Backed Securities;

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References listed on IDEAS
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  1. Schwartz, Eduardo S & Torous, Walter N, 1989. " Prepayment and the Valuation of Mortgage-Backed Securities," Journal of Finance, American Finance Association, vol. 44(2), pages 375-92, June. [Downloadable!] (restricted)
  2. Stanton, Richard & Wallace, Nancy, 1999. "Anatomy of an ARM: The Interest-Rate Risk of Adjustable-Rate Mortgages," The Journal of Real Estate Finance and Economics, Springer, vol. 19(1), pages 49-67, July. [Downloadable!] (restricted)
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