Publication Type
Journal Article
Version
submittedVersion
Publication Date
8-2019
Abstract
We formulate a risk-based swaption portfolio management framework for profit-and-loss (P&L) explanation. We analyze the implication of using the right volatility backbone in the pricing model from a hedging perspective, and demonstrate the importance of incorporating stability and robustness measure as part of the calibration process for optimal model selection. We also derive a displaced-diffusion stochastic volatility (DDSV) model with a closed-form analytical expression to handle negative interest rates. Finally, we show that our framework is able to identify the optimal pricing model, which leads to superior P&L explanation and hedging performance.
Keywords
derivatives valuation, interest rate markets, swaptions, risk management, portfolio management, pricing and hedging, stochastic volatility models, SABR model
Discipline
Finance and Financial Management | Portfolio and Security Analysis
Research Areas
Finance; Quantitative Finance
Publication
Journal of Derivatives
Volume
27
Issue
2
First Page
81
Last Page
107
ISSN
1074-1240
Identifier
10.3905/jod.2019.1.083
Publisher
Institutional Investor Inc.
Citation
NEO, Poh Ling and TEE, Chyng Wen.
Swaption portfolio risk management: Optimal model selection in different interest rate regimes. (2019). Journal of Derivatives. 27, (2), 81-107.
Available at: https://ink.library.smu.edu.sg/lkcsb_research/6404
Copyright Owner and License
Authors
Additional URL
https://doi.org/10.3905/jod.2019.1.083