Libor Market Model and Gaussian HJM Explicit Approaches to Option on Composition

12 Pages Posted: 8 Mar 2006

See all articles by Marc P. A. Henrard

Marc P. A. Henrard

muRisQ Advisory; OpenGamma; University College London - Department of Mathematics

Date Written: November 29, 2005

Abstract

The twin brothers Libor Market and Gaussian HJM models are investigated. A simple exotic option, floor on composition, is studied. The same explicit approach is used for both models. Using an approximation the LLM price is obtained without Monte Carlo simulation. The results of the approximation are very good, with an error well below the uncertainty due to the simulation. The appendices proves the existence of the (modified) normal and shifted log-normal LMM used in the pricing. The link of the latter with the Ho and Lee continuous time model is described.

Keywords: Explicit formula, Libor market model, HJM model, shifted log-normal model, normal model, existence, option on composition

JEL Classification: G13, E43, C63

Suggested Citation

Henrard, Marc P. A., Libor Market Model and Gaussian HJM Explicit Approaches to Option on Composition (November 29, 2005). Available at SSRN: https://ssrn.com/abstract=888484 or http://dx.doi.org/10.2139/ssrn.888484

Marc P. A. Henrard (Contact Author)

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