Location via proxy:   [ UP ]  
[Report a bug]   [Manage cookies]                
Scribd
Upload
27 views

Bond Price

The document summarizes the affine term structure model for bond pricing. It presents the partial differential equation that bond prices must satisfy under the short rate dynamics. It shows that bond prices can be written as an exponential function of two factors, and derives the corresponding PDE under different specifications for the short rate process, including Gaussian and Cox-Ingersoll-Ross models. The PDEs for the two factors are also presented under the affine assumption for the parameters in the short rate dynamics.

Uploaded by

Takeshi Yamada
Copyright
© Attribution Non-Commercial (BY-NC)
Available Formats
Download as PDF, TXT or read online on Scribd
27 views

Bond Price

The document summarizes the affine term structure model for bond pricing. It presents the partial differential equation that bond prices must satisfy under the short rate dynamics. It shows that bond prices can be written as an exponential function of two factors, and derives the corresponding PDE under different specifications for the short rate process, including Gaussian and Cox-Ingersoll-Ross models. The PDEs for the two factors are also presented under the affine assumption for the parameters in the short rate dynamics.

Uploaded by

Takeshi Yamada
Copyright
© Attribution Non-Commercial (BY-NC)
Available Formats
Download as PDF, TXT or read online on Scribd
You are on page 1/ 2

Bond price under Ane Term Structure Model

Basic results

The dynamics of genral short rate process is dr = a(t, rt )dt + b(t, rt )dWt . Financial contracts P satises the partial dierential equation Pt + a(t, rt )Pr + b2 (t, rt ) Prr rP = 0. 2 (1)

If the dyanamics of short rate contains jump, the partial dierential equation can be written as Pt + a(t, rt )Pr + b2 (t, rt ) Prr + (t, rt )E[P (r + J) P (t)] rP = 0. 2

We assume bond price can be written as fowllows P (t, T ) = exp A(t, T ) + B(t, T )r . (1) can be written A B P = + r P t t t P = B(t, T )P r 2P = B 2 (t, T )P r2 PDE is written as follows b2 (t, rt ) 2 A B + r P + a(t, rt )B(t, T )P + B (t, T )P + (t, rt )E[P (r + J) P (t)] rP = 0. t t 2 Suppose a(t, rt ), b2 (t, rt ), (t, rt ) follow ane structure, a(t, rt ) = a0 + a1 rt , b2 (t, rt ) = b0 + b1 rt , (t, rt ) = +rt . In Gaussian, a(t, rt ) = rt , b2 (t, rt ) = 2 , (t, rt ) = +rt , In CIR a(t, rt ) = rt , b2 (t, rt ) = 2 rt , (t, rt ) = + rt . In Gaussian model, short rate process dr = ( r)dt + dWt . B = B(t, T ) 1 E[P (r + J) P (t)] + 1 t B(T, T ) = 0

A 2 = B(t, T ) B 2 (t, T ) 0 E[P (r + J) P (t)] A(T, T ) = 0 t 2 1

In CIR model, short rate process dr = ( r)dt + rdWt . B 2 = B(t, T ) B 2 (t, T ) 1 E[P (r + J) P (t)] + 1 B(T, T ) = 0 t 2 A = B(t, T ) 0 E[P (r + J) P (t)] t A(T, T ) = 0

You might also like