Assessing swaption portfolios for prepayment risk mitigation. A parametric perspective

Andrea Monaco, Adamaria Perrotta and Alessandro Sgarabottolo
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Andrea Monaco: Center for Mathematical Economics, Bielefeld University
Adamaria Perrotta: Center for Mathematical Economics, Bielefeld University
Alessandro Sgarabottolo: Center for Mathematical Economics, Bielefeld University

No 729, Center for Mathematical Economics Working Papers from Center for Mathematical Economics, Bielefeld University

Abstract: We analyze the price behavior of Bermudan swaption portfolios used for hedging prepayment-driven interest rate risks in loan portfolios. We evaluate a variety of swaption portfolios across maturities and prepayment rates under various market conditions. Our findings reveal the existence of a parametric relation between swaption portfolio prices and the characteristics of the hedged loan. This relationship holds across different market conditions and valuation models, suggesting that one can swiftly adjust a swaption-based hedging strategy as loan portfolio characteristics evolve. This parametric approach allows financial institutions to reduce costs when assessing prepayment risks in their loan portfolios.

Keywords: swaptions; prepayment risk; option pricing; interest rates; parametric approach; model risk (search for similar items in EconPapers)
Pages: 15
Date: 2025-08-14
New Economics Papers: this item is included in nep-rmg
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