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Efficient Calibration of Trinomial Trees for One-Factor Short Rate Models

34 Pages Posted: 21 May 2003  

Markus Leippold

University of Zurich - Department of Banking and Finance; University of Zurich - Faculty of Economics, Business Administration and Information Technology

Zvi Wiener

Hebrew University of Jerusalem - Jerusalem School of Business Administration

Date Written: May 7, 2003

Abstract

In this paper we discuss the implementation of general one-factor short rate models with a trinomial tree. Taking the Hull-White model as a starting point, our contribution is threefold. First, we show how trees can be spanned using a set of general branching processes. Secondly, we improve Hull-White's procedure to calibrate the tree to bond prices by a much more efficient approach. This approach is applicable to a wide range of term structure models. Finally, we show how the tree can be adjusted to the volatility structure. The proposed approach leads to an efficient and exible construction method for trinomial trees, which can be easily implemented and calibrated to both prices and volatilities.

Keywords: Short Rate Models, Trinomial Trees, Forward Measure

JEL Classification: G13, C6

Suggested Citation

Leippold, Markus and Wiener, Zvi, Efficient Calibration of Trinomial Trees for One-Factor Short Rate Models (May 7, 2003). Available at SSRN: https://ssrn.com/abstract=398261 or http://dx.doi.org/10.2139/ssrn.398261

Markus Leippold (Contact Author)

University of Zurich - Department of Banking and Finance ( email )

Plattenstrasse 14
Zürich, 8032
Switzerland

University of Zurich - Faculty of Economics, Business Administration and Information Technology ( email )

Plattenstrasse 14
Zürich, 8032
Switzerland

Zvi Wiener

Hebrew University of Jerusalem - Jerusalem School of Business Administration ( email )

Mount Scopus
Jerusalem, 91905
Israel
(972)-2-588-3049 (Phone)
(972)-2-588-3105 (Fax)

HOME PAGE: http://pluto.mscc.huji.ac.il/~mswiener/zvi.html

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