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    Tutorial Answers Fmi 2018, Part V: Kenmerk: Vellekoop/Fmi/2018/Tuta/5 Datum: 5 December 2018

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    Luuk van der Kleij
    The document provides tutorial answers for part V of the FMI 2018 course, covering topics such as pricing a swaption using Black's formula, Hull-White model calibration, put-call parity for swaption prices, the normal distribution of the short rate in the Hull-White model, and applying Ito's lemma to show the volatility of a zero-coupon bond converges to zero as maturity approaches.

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    Tutorial Answers Fmi 2018, Part V: Kenmerk: Vellekoop/Fmi/2018/Tuta/5 Datum: 5 December 2018

    Uploaded by

    Luuk van der Kleij
    24 views1 page
    The document provides tutorial answers for part V of the FMI 2018 course, covering topics such as pricing a swaption using Black's formula, Hull-White model calibration, put-call parity for swaption prices, the normal distribution of the short rate in the Hull-White model, and applying Ito's lemma to show the volatility of a zero-coupon bond converges to zero as maturity approaches.

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    FMI2018TutotialAnswers5

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    The document provides tutorial answers for part V of the FMI 2018 course, covering topics such as pricing a swaption using Black's formula, Hull-White model calibration, put-call parity for swaption prices, the normal distribution of the short rate in the Hull-White model, and applying Ito's lemma to show the volatility of a zero-coupon bond converges to zero as maturity approaches.

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    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    24 views1 page

    Tutorial Answers Fmi 2018, Part V: Kenmerk: Vellekoop/Fmi/2018/Tuta/5 Datum: 5 December 2018

    Uploaded by

    Luuk van der Kleij
    The document provides tutorial answers for part V of the FMI 2018 course, covering topics such as pricing a swaption using Black's formula, Hull-White model calibration, put-call parity for swaption prices, the normal distribution of the short rate in the Hull-White model, and applying Ito's lemma to show the volatility of a zero-coupon bond converges to zero as maturity approaches.

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    Kenmerk : Vellekoop/FMI/2018/TutA/5

    Datum : 5 december 2018

    Course : Tutorial Answers FMI 2018, part V

    1. Swaption Price.
    Use Black’s swaption formula (and note that maturity of swaption equals 2 years, not 5
    years). Forward swap rat is 4.6942% and swaption price is 1.3207% of notional.
    2. Hull-White Calibration

    a. Substitute t = 0 in the Hull White formula for continuous time and check that you find
    back the observed values d0,T .
    b. We have that B̃1 = ∆t and B̃2 = 2∆t − α(∆t)2 , so
    −1
    Ft,t = ∆t [−rt B̃1 ] = rt
    −1
    Ft,t+∆t = ∆t [−rt (B̃2 − B̃1 ) − B1 Θ(t)∆t + 21 ∆t(σ r )2 (B̃1 )2 ]
    = rt − αrt ∆t + Θ(t)∆t − 21 (σ r )2 (∆t)2 .

    Ft,t+∆t −Ft,t
    c. By substitution of results of b. in expression ∆t and rewriting you find the
    result as stated.
    3. Put-call parity is a result for the price difference between call and put so we now look at the
    price difference between a payer and receiver swaption.
    Let Pt be the value of the payer swaption with maturity T and Rt the receiver swaption with
    the same maturity, then we have that the difference of their payoffs at maturity PT − RT
    equals LA(sT − sK ) in the notation of Hull. This is the payoff of a forward payer swap
    contract with strike sK at maturity. This means (by no arbitrage) that today’s value Pt − Rt
    must equal today’s value of that forward swap contract, so Pt − Rt = LA(s0 − sK ), in the
    notation of Hull.
    4. If d0,t = exp(−tyt ) has a lognormal distribution than −tyt has a normal distribution so
    yt also has a normal distribution which means that it can always assume negative values:
    P(yt < 0) > 0.
    5. Using Itô’s Lemma on d(e−(T −t)R(t,T ) ) gives that the volatility (the term which is in front
    of the Wiener increment dz) equals −(T − t)σe−(T −t)R(t,T ) which becomes zero when t ↑ T .
    This is as expected since we know that the zero coupon bond value converges to the constant
    1 when t ↑ T .

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