Bond Option Valuation for Non‐Markovian Interest Rate Processes

Joel R. Barber

The Financial Review, 2005, vol. 40, issue 4, 519-532

Abstract: The standard method for valuing a European option on a bond portfolio is developed by Jamshidian. He shows that under certain circumstances the payoff from a bond option can be expressed as a portfolio of payoffs on discount bond options, allowing the option to be valued as a portfolio of options. A limitation of this approach is that it cannot be applied to non‐Markovian interest rate processes. This paper develops a method for the valuation of a European option on a bond portfolio that can be applied to both Markovian and non‐Markovian interest rate processes.

Date: 2005
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https://doi.org/10.1111/j.1540-6288.2005.00122.x

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