Fair prices under a unified lattice approach for interest rate derivatives

Giacomo Morelli ()
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Giacomo Morelli: LUISS University

Annals of Operations Research, 2021, vol. 299, issue 1, No 20, 429-441

Abstract: Abstract An open question in interest rates derivative pricing is whether the price of the contracts should be computed by means of a multi-curve approach (different yield curves for discounting and forwarding) or by using a single curve (just one yield curve both for discounting and forwarding). The answer is of primary importance for financial markets as it allows to define a class of fair contracts. This paper calculates and compares the price of a simple swap within both multi-curve and single curve approaches and proposes a generalization of the lattice approach, which is usually used to approximate short interest rate models in the multi-curve framework. As an example, I show how to use the Black et al. (Financ Anal J 46(1):33–39, 1990) interest rate model on binomial lattice in multi-curve framework and calculate the price of the 2–8 period swaption with a single (LIBOR) curve and two-curve (OIS+LIBOR) approaches. Such technique can be used for pricing any interest rate based contract.

Keywords: Interest rates; Single curve; Multiple curve; Derivative pricing; Fair contracts (search for similar items in EconPapers)
JEL-codes: C02 C60 C63 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (2)

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DOI: 10.1007/s10479-019-03209-y

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