Chapter 29 Interest Rate Derivatives: The Standard Market Models

Interest rate derivatives are instruments whose payoffs are dependent in some way on the level of interest rates. In the 1980s and 1990s, the volume of trading in interest rate derivatives in both the over-the-counter and exchange-traded markets increased rapidly. Many new products were developed to meet particular needs of end users. A key challenge for derivatives traders was to find good, robust procedures for pricing and hedging these products. Interest rate derivatives are more difficult to value than equity and foreign exchange derivatives for the following reasons:

  1. The behavior of an individual interest rate is more complicated than that of a stock price or an exchange ...

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