IDEAS home Printed from https://ideas.repec.org/p/arx/papers/2011.10113.html
   My bibliography  Save this paper

Price Impact on Term Structure

Author

Listed:
  • Damiano Brigo
  • Federico Graceffa
  • Eyal Neuman

Abstract

We introduce a first theory of price impact in presence of an interest-rates term structure. We explain how one can formulate instantaneous and transient price impact on bonds with different maturities, including a cross price impact that is endogenous to the term structure. We connect the introduced impact to classic no-arbitrage theory for interest rate markets, showing that impact can be embedded in the pricing measure and that no-arbitrage can be preserved. We present pricing examples in presence of price impact and numerical examples of how impact changes the shape of the term structure. Finally, to show that our approach is applicable we solve an optimal execution problem in interest rate markets with the type of price impact we developed in the paper.

Suggested Citation

  • Damiano Brigo & Federico Graceffa & Eyal Neuman, 2020. "Price Impact on Term Structure," Papers 2011.10113, arXiv.org, revised Sep 2021.
    • Handle: RePEc:arx:papers:2011.10113
    as

    Download full text from publisher

    File URL: http://arxiv.org/pdf/2011.10113
    File Function: Latest version
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Charles-Albert Lehalle & Sophie Laruelle (ed.), 2013. "Market Microstructure in Practice," World Scientific Books, World Scientific Publishing Co. Pte. Ltd., number 8967, August.
    2. Aur'elien Alfonsi & Antje Fruth & Alexander Schied, 2007. "Optimal execution strategies in limit order books with general shape functions," Papers 0708.1756, arXiv.org, revised Feb 2010.
    3. Vasicek, Oldrich, 1977. "An equilibrium characterization of the term structure," Journal of Financial Economics, Elsevier, vol. 5(2), pages 177-188, November.
    4. Jing Cynthia Wu & Fan Dora Xia, 2020. "Negative interest rate policy and the yield curve," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 35(6), pages 653-672, September.
    5. Frédéric Abergel & Grégoire Loeper, 2013. "Pricing and hedging contingent claims with liquidity costs and market impact," Working Papers hal-00802402, HAL.
    6. Obizhaeva, Anna A. & Wang, Jiang, 2013. "Optimal trading strategy and supply/demand dynamics," Journal of Financial Markets, Elsevier, vol. 16(1), pages 1-32.
    7. Harrison, J. Michael & Kreps, David M., 1979. "Martingales and arbitrage in multiperiod securities markets," Journal of Economic Theory, Elsevier, vol. 20(3), pages 381-408, June.
    8. Vasicek, Oldrich Alfonso, 1977. "Abstract: An Equilibrium Characterization of the Term Structure," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 12(4), pages 627-627, November.
    9. Harrison, J. Michael & Pliska, Stanley R., 1981. "Martingales and stochastic integrals in the theory of continuous trading," Stochastic Processes and their Applications, Elsevier, vol. 11(3), pages 215-260, August.
    10. Giacomo Bormetti & Damiano Brigo & Marco Francischello & Andrea Pallavicini, 2018. "Impact of multiple curve dynamics in credit valuation adjustments under collateralization," Quantitative Finance, Taylor & Francis Journals, vol. 18(1), pages 31-44, January.
    11. Olivier Gu'eant & Charles-Albert Lehalle & Joaquin Fernandez Tapia, 2011. "Optimal Portfolio Liquidation with Limit Orders," Papers 1106.3279, arXiv.org, revised Jul 2012.
    12. Aurelien Alfonsi & Antje Fruth & Alexander Schied, 2010. "Optimal execution strategies in limit order books with general shape functions," Quantitative Finance, Taylor & Francis Journals, vol. 10(2), pages 143-157.
    13. Hull, John & White, Alan, 1990. "Pricing Interest-Rate-Derivative Securities," The Review of Financial Studies, Society for Financial Studies, vol. 3(4), pages 573-592.
    14. Rene Carmona & Kevin Webster, 2013. "The Self-Financing Equation in High Frequency Markets," Papers 1312.2302, arXiv.org.
    15. Bruno Bouchard & G Loeper & Y Zou, 2017. "Hedging of covered options with linear market impact and gamma constraint," Post-Print hal-01247523, HAL.
    16. 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..
    17. Eyal Neuman & Alexander Schied, 2015. "Optimal Portfolio Liquidation in Target Zone Models and Catalytic Superprocesses," Papers 1504.06031, arXiv.org, revised Jul 2015.
    18. Bruno Bouchard & G. Loeper & Y. Zou, 2017. "Hedging of covered options with linear market impact and gamma constraint," Post-Print hal-01611790, HAL.
    19. Bertsimas, Dimitris & Lo, Andrew W., 1998. "Optimal control of execution costs," Journal of Financial Markets, Elsevier, vol. 1(1), pages 1-50, April.
    20. Eyal Neuman & Moritz Vo{ss}, 2020. "Optimal Signal-Adaptive Trading with Temporary and Transient Price Impact," Papers 2002.09549, arXiv.org, revised Jan 2022.
    21. Bruno Bouchard & G Loeper & Y Zou, 2016. "Almost-sure hedging with permanent price impact," Post-Print hal-01133223, HAL.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Eduardo Abi Jaber & Eyal Neuman & Sturmius Tuschmann, 2024. "Optimal Portfolio Choice with Cross-Impact Propagators," Papers 2403.10273, arXiv.org.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Olivier Guéant, 2016. "The Financial Mathematics of Market Liquidity: From Optimal Execution to Market Making," Post-Print hal-01393136, HAL.
    2. Charles-Albert Lehalle & Eyal Neuman, 2019. "Incorporating signals into optimal trading," Finance and Stochastics, Springer, vol. 23(2), pages 275-311, April.
    3. Bjork, Tomas, 2009. "Arbitrage Theory in Continuous Time," OUP Catalogue, Oxford University Press, edition 3, number 9780199574742.
    4. Fergusson, Kevin, 2020. "Less-Expensive Valuation And Reserving Of Long-Dated Variable Annuities When Interest Rates And Mortality Rates Are Stochastic," ASTIN Bulletin, Cambridge University Press, vol. 50(2), pages 381-417, May.
    5. repec:uts:finphd:40 is not listed on IDEAS
    6. Suresh M. Sundaresan, 2000. "Continuous‐Time Methods in Finance: A Review and an Assessment," Journal of Finance, American Finance Association, vol. 55(4), pages 1569-1622, August.
    7. Duffie, Darrell, 2003. "Intertemporal asset pricing theory," Handbook of the Economics of Finance, in: G.M. Constantinides & M. Harris & R. M. Stulz (ed.), Handbook of the Economics of Finance, edition 1, volume 1, chapter 11, pages 639-742, Elsevier.
    8. Boero, G. & Torricelli, C., 1996. "A comparative evaluation of alternative models of the term structure of interest rates," European Journal of Operational Research, Elsevier, vol. 93(1), pages 205-223, August.
    9. Robert J. Elliott & Tak Kuen Siu, 2016. "Pricing regime-switching risk in an HJM interest rate environment," Quantitative Finance, Taylor & Francis Journals, vol. 16(12), pages 1791-1800, December.
    10. Shane Miller, 2007. "Pricing of Contingent Claims Under the Real-World Measure," PhD Thesis, Finance Discipline Group, UTS Business School, University of Technology, Sydney, number 2-2007, January-A.
    11. repec:dau:papers:123456789/5374 is not listed on IDEAS
    12. Stoyan Valchev, 2004. "Stochastic volatility Gaussian Heath-Jarrow-Morton models," Applied Mathematical Finance, Taylor & Francis Journals, vol. 11(4), pages 347-368.
    13. Kevin John Fergusson, 2018. "Less-Expensive Pricing and Hedging of Extreme-Maturity Interest Rate Derivatives and Equity Index Options Under the Real-World Measure," PhD Thesis, Finance Discipline Group, UTS Business School, University of Technology, Sydney, number 3-2018, January-A.
    14. Coutant, Sophie & Jondeau, Eric & Rockinger, Michael, 2001. "Reading PIBOR futures options smiles: The 1997 snap election," Journal of Banking & Finance, Elsevier, vol. 25(11), pages 1957-1987, November.
    15. Shane Miller, 2007. "Pricing of Contingent Claims Under the Real-World Measure," PhD Thesis, Finance Discipline Group, UTS Business School, University of Technology, Sydney, number 25, July-Dece.
    16. Mondher Bellalah, 2009. "Derivatives, Risk Management & Value," World Scientific Books, World Scientific Publishing Co. Pte. Ltd., number 7175, August.
    17. Carl Chiarella & Xue-Zhong He & Christina Sklibosios Nikitopoulos, 2015. "Derivative Security Pricing," Dynamic Modeling and Econometrics in Economics and Finance, Springer, edition 127, number 978-3-662-45906-5, March.
    18. Robert A. Jarrow, 2009. "The Term Structure of Interest Rates," Annual Review of Financial Economics, Annual Reviews, vol. 1(1), pages 69-96, November.
    19. Kimmel, Robert L., 2004. "Modeling the term structure of interest rates: A new approach," Journal of Financial Economics, Elsevier, vol. 72(1), pages 143-183, April.
    20. Christopher Lorenz & Alexander Schied, 2013. "Drift dependence of optimal trade execution strategies under transient price impact," Finance and Stochastics, Springer, vol. 17(4), pages 743-770, October.
    21. Aur'elien Alfonsi & Alexander Schied & Florian Klock, 2013. "Multivariate transient price impact and matrix-valued positive definite functions," Papers 1310.4471, arXiv.org, revised Sep 2015.
    22. U. Cherubini & M. Esposito, 1995. "Options in and on interest rate futures contracts: results from martingale pricing theory," Applied Mathematical Finance, Taylor & Francis Journals, vol. 2(1), pages 1-16.

    More about this item

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:arx:papers:2011.10113. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: arXiv administrators (email available below). General contact details of provider: http://arxiv.org/ .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.