By Kerry Back

ISBN-10: 3540253734

ISBN-13: 9783540253730

This ebook goals at a center floor among the introductory books on spinoff securities and people who supply complicated mathematical remedies. it's written for mathematically able scholars who've no longer unavoidably had previous publicity to likelihood conception, stochastic calculus, or computing device programming. It offers derivations of pricing and hedging formulation (using the probabilistic switch of numeraire method) for traditional techniques, alternate concepts, techniques on forwards and futures, quanto techniques, unique ideas, caps, flooring and swaptions, in addition to VBA code imposing the formulation. It additionally comprises an advent to Monte Carlo, binomial versions, and finite-difference methods.

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Extra info for A course in derivative securities intoduction to theory and computation SF

Example text

It is at the heart of modern pricing of derivative securities. It is a present value relation: the value at time t of the asset is the expectation of its value Y (T ) at time T “discounted” by the (possibly random) factor S(t)/S(T ). 17 ) where now num(t) denotes the price of the (non-dividend-paying) numeraire asset at time t. 18) which means that the value Y (t) is the expected value of Y (T ) discounted at the risk-free rate for the remaining time T − t, when the expectation is computed under the risk-neutral probability measure.

The name “Brownian motion” derives from the botanist Robert Brown’s observations of the erratic behavior of particles suspended in a fluid. This has long been thought to be a reasonable model for the behavior of a stock price. The plot of other functions with which we may be familiar will be much smoother. This is captured in the concept of quadratic variation. Consider a discrete partition 0 = t0 < t1 < t2 < · · · < tN = T of the time interval [0, T ]. Let B be a Brownian motion and calculate the sum of squared changes N [∆B(ti )]2 , i=1 where ∆B(ti ) denotes the change B(ti ) − B(ti−1 ).

9 In a binomial model (or in any model with only a finite number of states of the world), the concept of an expectation is clear: it is just a weighted average of outcomes, the weights being the probabilities. 10 To convert from state prices to probabilities corresponding to different numeraires, we follow the same procedure as at the end of the previous section: we multiply together (i) the probability of the state, (ii) the value of φ(T ) in the state, and (iii) the gross return of the numeraire in the state.

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A course in derivative securities intoduction to theory and computation SF by Kerry Back


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