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Efficient Rank Reduction of Correlation Matrices

  • Igor Grubisic

    (Utrecht University)

  • Raoul Pietersz

    (Erasmus University Rotterdam)

Geometric optimisation algorithms are developed that efficiently find the nearest low-rank correlation matrix. We show, in numerical tests, that our methods compare favourably to the existing methods in the literature. The connection with the Lagrange multiplier method is established, along with an identification of whether a local minimum is a global minimum. An additional benefit of the geometric approach is that any weighted norm can be applied. The problem of finding the nearest low-rank correlation matrix occurs as part of the calibration of multi-factor interest rate market models to correlation.

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File URL: http://econwpa.repec.org/eps/fin/papers/0502/0502007.pdf
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Paper provided by EconWPA in its series Finance with number 0502007.

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Length: 21 pages
Date of creation: 11 Feb 2005
Date of revision:
Handle: RePEc:wpa:wuwpfi:0502007
Note: Type of Document - pdf; pages: 21
Contact details of provider: Web page: http://econwpa.repec.org

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  1. Qiang Dai & Kenneth Singleton, 2003. "Term Structure Dynamics in Theory and Reality," Review of Financial Studies, Society for Financial Studies, vol. 16(3), pages 631-678, July.
  2. Frank de Jong & Joost Driessen & Antoon Pelsser, 2004. "On the Information in the Interest Rate Term Structure and Option Prices," Review of Derivatives Research, Springer, vol. 7(2), pages 99-127, 08.
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