Security Pricing with Information-Sensitive Discounting
In this paper incomplete-information models are developed for the pricing of securities in a stochastic interest rate setting. In particular we consider credit-risky assets that may include random recovery upon default. The market filtration is generated by a collection of information processes associated with economic factors, on which interest rates depend, and information processes associated with market factors used to model the cash flows of the securities. We use information-sensitive pricing kernels to give rise to stochastic interest rates. Semi-analytical expressions for the price of credit-risky bonds are derived, and a number of recovery models are constructed which take into account the perceived state of the economy at the time of default. The price of European-style call bond options is deduced, and it is shown how examples of hybrid securities, like inflation-linked credit-risky bonds, can be valued. Finally, a cumulative information process is employed to develop pricing kernels that respond to the amount of aggregate debt of an economy.
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- Jirô Akahori & Andrea Macrina, 2012.
"Heat Kernel Interest Rate Models With Time-Inhomogeneous Markov Processes,"
International Journal of Theoretical and Applied Finance (IJTAF),
World Scientific Publishing Co. Pte. Ltd., vol. 15(01), pages 1250007-1-1.
- Jiro Akahori & Andrea Macrina, 2010. "Heat Kernel Interest Rate Models with Time-Inhomogeneous Markov Processes," Papers 1012.1878, arXiv.org.
- Lane P. Hughston & Andrea Macrina, 2009. "Pricing Fixed-Income Securities in an Information-Based Framework," Papers 0911.1610, arXiv.org, revised Apr 2010.
- Jiro Akahori & Yuji Hishida & Josef Teichmann & Takahiro Tsuchiya, 2009. "A Heat Kernel Approach to Interest Rate Models," Papers 0910.5033, arXiv.org.
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