A Simple Approximation for the No-Arbitrage Drifts for LMM-SABR-Family Interest-Rate Models
10 Pages Posted: 5 Feb 2015
Date Written: February 4, 2013
The paper present a simple, yet surprisingly effective, approximation for the no-arbitrage drifts that appear in LMM(-SABR)-family term structure models. The approximation reduces the burden of the computational bottleneck for these models by one order of magnitude. As the size of the problem increases it becomes asymptotically exact for a wide class of correlation structures. We show the effectiveness of the approximation in a particularly severe stress case.
Keywords: LMM model, SABR model, LMM-SABR model, interest-rate models, correlation, drift correction
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