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A systematic approach to pricing and hedging international derivatives with interest rate risk: analysis of international derivatives under stochastic interest rates

Author

Listed:
  • Rudiger Frey
  • Daniel Sommer

Abstract

This paper deals with the valuation and the hedging of non-path-dependent European options on one or several underlying assets in a model of an international economy allowing for both, interest rate risk and exchange rate risk. Using martingale theory and, in particular, the change of numeraire technique we provide a unified and easily applicable approach to pricing and hedging exchange options on stocks, bonds, futures, interest rates and exchange rates. We also cover the pricing and hedging of compound exchange options.

Suggested Citation

  • Rudiger Frey & Daniel Sommer, 1996. "A systematic approach to pricing and hedging international derivatives with interest rate risk: analysis of international derivatives under stochastic interest rates," Applied Mathematical Finance, Taylor & Francis Journals, vol. 3(4), pages 295-317.
    • Handle: RePEc:taf:apmtfi:v:3:y:1996:i:4:p:295-317
    DOI: 10.1080/13504869600000014
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    Citations

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    Cited by:

    1. Samson Assefa, 2007. "Pricing Swaptions and Credit Default Swaptions in the Quadratic Gaussian Factor Model," PhD Thesis, Finance Discipline Group, UTS Business School, University of Technology, Sydney, number 31, July-Dece.
    2. Fabio Mercurio, 2005. "Pricing inflation-indexed derivatives," Quantitative Finance, Taylor & Francis Journals, vol. 5(3), pages 289-302.
    3. Lech A. Grzelak & Cornelis W. Oosterlee, 2012. "On Cross-Currency Models with Stochastic Volatility and Correlated Interest Rates," Applied Mathematical Finance, Taylor & Francis Journals, vol. 19(1), pages 1-35, February.
    4. Ernst Eberlein & Nataliya Koval, 2006. "A cross-currency Levy market model," Quantitative Finance, Taylor & Francis Journals, vol. 6(6), pages 465-480.
    5. Marcos Escobar & Christoph Gschnaidtner, 2018. "A multivariate stochastic volatility model with applications in the foreign exchange market," Review of Derivatives Research, Springer, vol. 21(1), pages 1-43, April.
    6. Antje Mahayni, 2003. "Effectiveness of Hedging Strategies under Model Misspecification and Trading Restrictions," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 6(05), pages 521-552.
    7. Samson Assefa, 2007. "Pricing Swaptions and Credit Default Swaptions in the Quadratic Gaussian Factor Model," PhD Thesis, Finance Discipline Group, UTS Business School, University of Technology, Sydney, number 3-2007, January-A.
    8. Erik Schlögl, 2002. "A multicurrency extension of the lognormal interest rate Market Models," Finance and Stochastics, Springer, vol. 6(2), pages 173-196.
    9. Antje B. Mahayni & Klaus Sandmann, 2008. "Return Guarantees with Delayed Payment," German Economic Review, Verein für Socialpolitik, vol. 9(2), pages 207-231, May.
    10. repec:bla:germec:v:9:y:2008:i::p:207-231 is not listed on IDEAS
    11. Antje Dudenhausen & Erik Schlögl & Lutz Schlögl, 1999. "Robustness of Gaussian Hedges and the Hedging of Fixed Income Derivatives," Research Paper Series 19, Quantitative Finance Research Centre, University of Technology, Sydney.
    12. A. Pelsser, 2003. "Mathematical foundation of convexity correction," Quantitative Finance, Taylor & Francis Journals, vol. 3(1), pages 59-65.

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