Efficient Control Variates and Strategies for Bermudan Swaptions in a Libor Market Model
AbstractThis paper concerns the problem of valuing Bermudan swaptions in a Libor market model. In particular we consider various eﬃciency improvement techniques for a Monte Carlo based valuation method. We suggest a simplification of the Andersen (2000) exercise strategy and find it to be much more eﬃcient. Furthermore, we test a range of control variates for Bermudan swaptions using a control variate technique for American options proposed in Rasmussen (2002). Application of these eﬃciency improvements in the Primal-Dual simulation algorithm of Andersen & Broadie (2001) improves both upper and lower bounds for the price estimates. For the Primal-Dual simulation algorithm we examine the variance-bias trade-oﬀ between the numbers of outer an inner paths. Finally, we demonstrate that the presence of stochastic volatility increases the expected losses from using the simple strategy in Andersen (2000).
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Bibliographic InfoPaper provided by University of Aarhus, Aarhus School of Business, Department of Business Studies in its series Finance Working Papers with number 02-23.
Length: 35 pages
Date of creation: 09 May 2002
Date of revision:
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Postal: The Aarhus School of Business, Fuglesangs Allé 4, DK-8210 Aarhus V, Denmark
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More information through EDIRC
Bermudan Swaptions; Control Variates; Exercise Strategy; Primal-Dual Algorithm; Stochastic Volatility;
This paper has been announced in the following NEP Reports:
- NEP-ALL-2003-05-15 (All new papers)
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- Svenstrup, Mikkel, 2005. "On the suboptimality of single-factor exercise strategies for Bermudan swaptions," Journal of Financial Economics, Elsevier, vol. 78(3), pages 651-684, December.
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