The Q-Measure Dynamics of Forward Rates

Riccardo Rebonato ()
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Riccardo Rebonato: EDHEC Risk Institute, EDHEC Business School, London, United Kingdom

Annual Review of Financial Economics, 2023, vol. 15, issue 1, 493-522

Abstract: I review how the theoretical modeling of the dynamics of forward rates in the context of derivatives pricing has evolved over time. I review the theoretical developments from the short rate models of the 1980s to the stochastic-volatility extensions of the SABR model. I argue that how the theory developed can be understood only by taking into account the institutional setting of derivatives trading and that the modeling choices were motivated to a surprisingly large extent by how the market evolved. I conclude with an assessment of which of these theoretical contributions have had a lasting and meaningful effect on the financial theory of asset pricing.

Keywords: forward rates; volatility; correlation; no-arbitrage; pricing models (search for similar items in EconPapers)
JEL-codes: G12 G14 G41 (search for similar items in EconPapers)
Date: 2023
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DOI: 10.1146/annurev-financial-110921-021453

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