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Estimation of bid-ask prices for options on LIBOR based instruments

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  • Energy Sonono, Masimba
  • Phillip Mashele, Hopolang

Abstract

Interest rate options are the most liquid traded derivatives in the markets. We observe the following from the markets: (i) Market dealers usually quote the mid-price. The mid-price is a subjective and hypothetical price. (ii) OTC interest rate options market are incomplete, and options cannot always be costlessly replicated. (iii) The bid-ask prices are not widely available for the market as a whole. With these observations in mind, we propose an approach to estimate the bid-ask prices for options on LIBOR based instruments. In particular, we assess the proposed approach in the determination of premiums for caps and floors.

Suggested Citation

  • Energy Sonono, Masimba & Phillip Mashele, Hopolang, 2016. "Estimation of bid-ask prices for options on LIBOR based instruments," Finance Research Letters, Elsevier, vol. 19(C), pages 33-41.
    • Handle: RePEc:eee:finlet:v:19:y:2016:i:c:p:33-41
    DOI: 10.1016/j.frl.2016.05.013
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    References listed on IDEAS

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    Cited by:

    1. Li, Zhe & Zhang, Weiguo & Zhang, Yue & Yi, Zhigao, 2019. "An analytical approximation approach for pricing European options in a two-price economy," The North American Journal of Economics and Finance, Elsevier, vol. 50(C).
    2. Braouezec, Yann, 2017. "How fundamental is the one-period trinomial model to European option pricing bounds. A new methodological approach," Finance Research Letters, Elsevier, vol. 21(C), pages 92-99.

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    More about this item

    Keywords

    Interest rate; LIBOR; Caps; Floors; Bid-ask prices; Wang transform;
    All these keywords.

    JEL classification:

    • C02 - Mathematical and Quantitative Methods - - General - - - Mathematical Economics
    • C15 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Statistical Simulation Methods: General
    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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