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Generalizations of Ho–Lee’s binomial interest rate model I: from one- to multi-factor

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  • Jirô Akahori
  • Hiroki Aoki
  • Yoshihiko Nagata

Abstract

In this paper a multi-factor generalization of Ho–Lee model is proposed. In sharp contrast to the classical Ho–Lee, this generalization allows for those movements other than parallel shifts, while it still is described by a recombining tree, and is a process with stationary independent increments to be compatible with principal component analysis. Based on the model, generalizations of duration-based hedging are proposed. A continuous-time limit of the model is also discussed. Copyright Springer Science+Business Media, LLC 2006

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  • Jirô Akahori & Hiroki Aoki & Yoshihiko Nagata, 2006. "Generalizations of Ho–Lee’s binomial interest rate model I: from one- to multi-factor," Asia-Pacific Financial Markets, Springer;Japanese Association of Financial Economics and Engineering, vol. 13(2), pages 151-179, June.
    • Handle: RePEc:kap:apfinm:v:13:y:2006:i:2:p:151-179
    DOI: 10.1007/s10690-007-9039-8
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    1. Stephen A. Ross, 2013. "The Arbitrage Theory of Capital Asset Pricing," World Scientific Book Chapters, in: Leonard C MacLean & William T Ziemba (ed.), HANDBOOK OF THE FUNDAMENTALS OF FINANCIAL DECISION MAKING Part I, chapter 1, pages 11-30, World Scientific Publishing Co. Pte. Ltd..
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    6. David Heath & Robert Jarrow & Andrew Morton, 2008. "Bond Pricing And The Term Structure Of Interest Rates: A New Methodology For Contingent Claims Valuation," World Scientific Book Chapters, in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 13, pages 277-305, World Scientific Publishing Co. Pte. Ltd..
    7. Ho, Thomas S Y & Lee, Sang-bin, 1986. "Term Structure Movements and Pricing Interest Rate Contingent Claims," Journal of Finance, American Finance Association, vol. 41(5), pages 1011-1029, December.
    8. Li Chen & Damir Filipović & H. Vincent Poor, 2004. "Quadratic Term Structure Models For Risk‐Free And Defaultable Rates," Mathematical Finance, Wiley Blackwell, vol. 14(4), pages 515-536, October.
    9. Peter Ritchken & L. Sankarasubramanian, 1995. "Volatility Structures Of Forward Rates And The Dynamics Of The Term Structure1," Mathematical Finance, Wiley Blackwell, vol. 5(1), pages 55-72, January.
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    Cited by:

    1. Young Shin Kim & Stoyan Stoyanov & Svetlozar Rachev & Frank J. Fabozzi, 2017. "Another Look at the Ho-Lee Bond Option Pricing Model," Papers 1712.06664, arXiv.org.
    2. Laurini, Márcio Poletti & Ohashi, Alberto, 2015. "A noisy principal component analysis for forward rate curves," European Journal of Operational Research, Elsevier, vol. 246(1), pages 140-153.

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    More about this item

    Keywords

    Ho–Lee model; Duration; Multi-factor; Recombining tree; Stationary increments; Forward rate; Drift condition; 91B28; 60G50; G12;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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