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Term Structure: Interest Rate Models

In: Encyclopedia of Finance

Author

Listed:
  • Thomas S. Y. Ho

    (Thomas Ho Company, Ltd.)

  • Sang Bin Lee

    (Hanyang University)

Abstract

Interest movement models are important to financial modeling because they can be used for valuing any financial instruments whose values are affected by interest rate movements. Specifically, we can classify the interest rate movement models into two categories: equilibrium models and no-arbitrage models. The equilibrium models emphasize the equilibrium concept. However, the no-arbitrage models argue that the term-structure movements should satisfy the no-arbitrage condition. The arbitrage-free interest rate model is an extension of the Black–Scholes model to value interest rate derivatives. The model valuation is assured to be consistent with the observed yield curve in valuing interest rate derivatives and providing accurate pricing of interest rate contingent claims. Therefore, it is widely used for portfolio management and other capital market activities.

Suggested Citation

  • Thomas S. Y. Ho & Sang Bin Lee, 2022. "Term Structure: Interest Rate Models," Springer Books, in: Cheng-Few Lee & Alice C. Lee (ed.), Encyclopedia of Finance, edition 0, chapter 25, pages 819-833, Springer.
    • Handle: RePEc:spr:sprchp:978-3-030-91231-4_64
    DOI: 10.1007/978-3-030-91231-4_64
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    Cited by:

    1. Kunath, Gero & Matthes, Jürgen & Obst, Thomas, 2022. "Biden's economic agenda risks mid-term elections: An analysis of Biden's economic agenda and its effects on the American economy," IW-Reports 59/2022, Institut der deutschen Wirtschaft (IW) / German Economic Institute.

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