Pricing of Traffic Light Options and other Correlation Derivatives
This paper considers derivatives with payo¤s that depend on a stock index and underlying LIBOR rates. A tra¢ c light option pricing formula is derived un- der lognormality assumptions on the underlying processes. The tra¢ c light option is aimed at the Danish life and pension sector to help companies stay solvent in the tra¢ c light stress test system introduced by the Danish Financial Supervisory Authorities in 2001. Similar systems are now being implemented in several other European countries. A pricing approach for general payo¤s is presented and illustrated with simulation via the pricing of a hybrid derivative known as the EUR Sage Note. The approach can be used to price many existing structured products.
|Date of creation:||19 Feb 2008|
|Date of revision:|
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- Miltersen, Kristian R & Sandmann, Klaus & Sondermann, Dieter, 1997.
" Closed Form Solutions for Term Structure Derivatives with Log-Normal Interest Rates,"
Journal of Finance,
American Finance Association, vol. 52(1), pages 409-30, March.
- Miltersen, K. & K. Sandmann & D. Sondermann, 1994. "Closed Form Solutions for Term Structure Derivatives with Log-Normal Interest Rates," Discussion Paper Serie B 308, University of Bonn, Germany.
- Black, Fischer, 1976. "The pricing of commodity contracts," Journal of Financial Economics, Elsevier, vol. 3(1-2), pages 167-179.
- Farshid Jamshidian, 1997. "LIBOR and swap market models and measures (*)," Finance and Stochastics, Springer, vol. 1(4), pages 293-330.
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