Pricing Asian Interest Rate Options with a Three-Factor HJM Model

Claudio Henrique Barbedo (), Octavio Bessada Lion and Jose Valentim Machado Vicente ()
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Claudio Henrique Barbedo: Banco Central do Brasil e IBMEC
Jose Valentim Machado Vicente: Banco Central do Brasil e IBMEC

Brazilian Review of Finance, 2010, vol. 8, issue 1, 9-23

Abstract: Pricing interest rate derivatives is a challenging task that has attracted the attention of many researchers in recent decades. Portfolio and risk managers, policymakers, traders and more generally all market participants are looking for valuable information from derivative instruments. We use a standard procedure to implement the HJM model and to price IDI options. We intend to assess the importance of the principal components of pricing and interest rate hedging derivatives in Brazil, one of the major emerging markets. Our results indicate that the HJM model consistently underprices IDI options traded in the over-the-counter market while it overprices long-term options traded in the exchange studied. We also find a direct relationship between time to maturity and pricing error and a negative relation with moneyness.

Keywords: IDI Options; Term Structure; HJM (search for similar items in EconPapers)
JEL-codes: G12 G13 (search for similar items in EconPapers)
Date: 2010
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Working Paper: Pricing Asian Interest Rate Options with a Three-Factor HJM Model (2009)
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