A perturbative approach to Bermudan options pricing with applications

Roberto Baviera and Lorenzo Giada

Quantitative Finance, 2013, vol. 13, issue 2, 255-263

Abstract: In this paper we address the problem of the valuation of Bermudan option derivatives in the framework of multi-factor interest rate models. We propose a solution in which the exercise decision entails a properly defined series expansion. The method allows for the fast computation of both a lower and an upper bound for the option price, and a tight control of its accuracy, for a generic Markovian interest rate model. In particular, we show detailed computations in the case of the Bond Market Model. As examples we consider the case of a zero coupon Bermudan option and a coupon bearing Bermudan option; in order to demonstrate the wide applicability of the proposed methodology we also consider the case of a last generation payoff, a Bermudan option on a CMS spread bond.

Date: 2013
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DOI: 10.1080/14697688.2011.589400

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