Chapter 3

Interest-Rate Models I

Abstract

Term-structure modelling is based on theory describing the behaviour of interest rates. In this chapter we present a review of the work on interest-rate modelling, with coverage of the main term-structure models, including Vasicek, Hull-White, Merton, Ho and Lee, Black-Derman-Toy and Cox-Ingersoll-Ross. For reference with respect to practical implementation issues there is a section in choosing a term-structure model the issues to consider when deciding which technique to adopt for bond valuation purposes. The chapter also includes an illustration of the forward rate behaviour according to the spot rate structure.

Keywords

Interest-rate modelling

One-factor model

Short rate

Term structure model

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