A Simple Approximation for the No-Arbitrage Drifts in Libor Market Model-SABR-Family Interest-Rate Models

10 Pages Posted: 15 Jun 2016

See all articles by Riccardo Rebonato

Riccardo Rebonato

University of Oxford - Mathematical Institute

Date Written: September 29, 2015

Abstract

This paper presents a simple, yet surprisingly effective, approximation for the no-arbitrage drifts that appear in Libor market model-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: Libor Market Model, SABR, No-Arbitrage Drifts

Suggested Citation

Rebonato, Riccardo, A Simple Approximation for the No-Arbitrage Drifts in Libor Market Model-SABR-Family Interest-Rate Models (September 29, 2015). Journal of Computational Finance, Vol. 19, No. 1, Pages 1–10, 2015. Available at SSRN: https://ssrn.com/abstract=2795626

Riccardo Rebonato (Contact Author)

University of Oxford - Mathematical Institute ( email )

United Kingdom

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