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Bond pricing under the generalised Black-Karasinski models

Author

Listed:
  • Nawdha Thakoor
  • Désiré Yannick Tangman
  • Muddun Bhuruth

Abstract

Due to the lognormality of the short rate under the Black-Karasinski interest model, closed-form expressions for zero-coupon bond prices are not available. Existing methods for computing approximate prices include perturbation methods for solving the reaction-diffusion equation satisfied by the bond-price and the exponent expansion for computing the bond price via Arrow-Debreu prices. Perturbation methods are accurate for small volatility problems whereas the exponent expansion is accurate for small maturities. This work proposes a high-order computational method that works for all parameter settings. Several numerical examples are described to illustrate the high accuracy and rapid computation of bond prices.

Suggested Citation

  • Nawdha Thakoor & Désiré Yannick Tangman & Muddun Bhuruth, 2017. "Bond pricing under the generalised Black-Karasinski models," International Journal of Financial Markets and Derivatives, Inderscience Enterprises Ltd, vol. 6(1), pages 57-73.
    • Handle: RePEc:ids:ijfmkd:v:6:y:2017:i:1:p:57-73
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