Break-even volatility for caps, floors and swaptions

dc.contributor.advisorMahomed, Obeid
dc.contributor.authorCresswell, Wade
dc.date.accessioned2020-03-02T11:48:39Z
dc.date.available2020-03-02T11:48:39Z
dc.date.issued2019
dc.date.updated2020-03-02T09:43:15Z
dc.description.abstractThis dissertation investigates break-even volatility in the context of the South African interest rate market. Introduced by Dupire (2006), break-even volatility is a retrospective measure defined as the volatility that ensures the profit or loss from a delta hedged option position is zero. Break-even volatility sheds light on the inner structure of the market and is a promising investigatory tool. Insurance houses in South Africa are interested in modelling long-dated interest rate derivatives embedded within their liabilities. In pursuit of this goal, some are currently calibrating the Lognormal Forward-LIBOR Market Model to market prices. They rarely directly trade in said derivatives, but merely delta hedge their risk daily. In this case, break-even volatility surfaces become more relevant than recovering market prices (which incorporate the banks risk premium and profit margin) as it should better represent the historical cost of replicating the option under consideration. This dissertation ultimately assesses the use of the Lognormal Forward-LIBOR Market Model in the South African interest rate market using break-even volatility. It is found that several caps and swaptions are trading at volatilities that differ significantly from their break-even volatility estimates. Furthermore, through an investigation into the calibration of the Lognormal Forward-LIBOR Market Model to break-even volatilities, an argument that the underlying dynamics of the model are incompatible with that of the South African interest rate market is developed.
dc.identifier.apacitationCresswell, W. (2019). <i>Break-even volatility for caps, floors and swaptions</i>. (). ,Faculty of Commerce ,African Institute of Financial Markets and Risk Management. Retrieved from http://hdl.handle.net/11427/31435en_ZA
dc.identifier.chicagocitationCresswell, Wade. <i>"Break-even volatility for caps, floors and swaptions."</i> ., ,Faculty of Commerce ,African Institute of Financial Markets and Risk Management, 2019. http://hdl.handle.net/11427/31435en_ZA
dc.identifier.citationCresswell, W. 2019. Break-even volatility for caps, floors and swaptions. . ,Faculty of Commerce ,African Institute of Financial Markets and Risk Management. http://hdl.handle.net/11427/31435en_ZA
dc.identifier.ris TY - Thesis / Dissertation AU - Cresswell, Wade AB - This dissertation investigates break-even volatility in the context of the South African interest rate market. Introduced by Dupire (2006), break-even volatility is a retrospective measure defined as the volatility that ensures the profit or loss from a delta hedged option position is zero. Break-even volatility sheds light on the inner structure of the market and is a promising investigatory tool. Insurance houses in South Africa are interested in modelling long-dated interest rate derivatives embedded within their liabilities. In pursuit of this goal, some are currently calibrating the Lognormal Forward-LIBOR Market Model to market prices. They rarely directly trade in said derivatives, but merely delta hedge their risk daily. In this case, break-even volatility surfaces become more relevant than recovering market prices (which incorporate the banks risk premium and profit margin) as it should better represent the historical cost of replicating the option under consideration. This dissertation ultimately assesses the use of the Lognormal Forward-LIBOR Market Model in the South African interest rate market using break-even volatility. It is found that several caps and swaptions are trading at volatilities that differ significantly from their break-even volatility estimates. Furthermore, through an investigation into the calibration of the Lognormal Forward-LIBOR Market Model to break-even volatilities, an argument that the underlying dynamics of the model are incompatible with that of the South African interest rate market is developed. DA - 2019 DB - OpenUCT DP - University of Cape Town KW - Mathematical Finance LK - https://open.uct.ac.za PY - 2019 T1 - Break-even volatility for caps, floors and swaptions TI - Break-even volatility for caps, floors and swaptions UR - http://hdl.handle.net/11427/31435 ER - en_ZA
dc.identifier.urihttp://hdl.handle.net/11427/31435
dc.identifier.vancouvercitationCresswell W. Break-even volatility for caps, floors and swaptions. []. ,Faculty of Commerce ,African Institute of Financial Markets and Risk Management, 2019 [cited yyyy month dd]. Available from: http://hdl.handle.net/11427/31435en_ZA
dc.language.rfc3066eng
dc.publisher.departmentAfrican Institute of Financial Markets and Risk Management
dc.publisher.facultyFaculty of Commerce
dc.subjectMathematical Finance
dc.titleBreak-even volatility for caps, floors and swaptions
dc.typeMaster Thesis
dc.type.qualificationlevelMasters
dc.type.qualificationnameMPhil
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