Convexity Bias in the Pricing of Eurodollar Swaps

V. Pozdnyakov () and J.M. Steele ()
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V. Pozdnyakov: University of Connecticut
J.M. Steele: University of Pennsylvania, Steinberg Hall-Dietrich Hall 3000, University of Pennsylvania

Methodology and Computing in Applied Probability, 2002, vol. 4, issue 2, 181-193

Abstract: Abstract The traditional use of LIBOR futures prices to obtain surrogates for the Eurodollar forward rates is proved to yield a systematic bias in the pricing of Eurodollar swaps when one assumes that the yield curve is well described by the Heath-Jarrow-Morton model. The resulting theoretical inequality is consistent with the empirical observations of Burghardt and Hoskins (1995), and it provide a theoretical basis for price anomalies that are suggested by more recent empirical data.

Keywords: Heath-Jarrow-Morton model; HJM model; interest rates; LIBOR; futures prices; arbitrage pricing; swap; equivalent martingale measures (search for similar items in EconPapers)
Date: 2002
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DOI: 10.1023/A:1020693608365

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