On Finite Dimensional Realizations of Forward Price Term Structure Models

Raquel Gaspar

No 569, SSE/EFI Working Paper Series in Economics and Finance from Stockholm School of Economics

Abstract: In this paper we study a fairly general Wiener driven model for the term structure of forward prices. The model, under a fixed martingale measure, Q, consists of two infinite dimensional stochastic differential equations (SDEs). The first system is a standard HJM model for (forward) interest rates, driven by a multidimensional Wiener process W. The second system is an infinite SDE for the term structure of forward prices on some specified underlying asset driven by the same W. We are primarily interested in the forward prices. However, since for any fixed maturity, T, the forward price process is a martingale under the T-forward neutral measure, the zero coupon bond volatilities will enter into the drift part of the SDE for these forward prices. The interest rate system is, thus, needed as input into the forward price system. Given this setup we use the Lie algebra methodology of Björk et al. to investigate under what conditions on the volatility structure of the forward prices and/or interest rates, the inherently (doubly) infinite dimensional SDE for forward prices can be realized by a finite dimensional Markovian state space model.

Keywords: Forward prices; term structures; state space models; Markovian realizations; HJM models (search for similar items in EconPapers)
JEL-codes: E43 G13 (search for similar items in EconPapers)
Pages: 49 pages
Date: 2004-09-30
New Economics Papers: this item is included in nep-fin and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations:

Forthcoming in Proceedings of the Stochastic Finance 2004 Conference, , (eds.), Springer-Verlag.

Downloads: (external link)
http://swopec.hhs.se/hastef/papers/hastef0569.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:hhs:hastef:0569

Access Statistics for this paper

More papers in SSE/EFI Working Paper Series in Economics and Finance from Stockholm School of Economics The Economic Research Institute, Stockholm School of Economics, P.O. Box 6501, 113 83 Stockholm, Sweden. Contact information at EDIRC.
Bibliographic data for series maintained by Helena Lundin ().