Modern Pricing of
Interest-Rate Derivatives:
The LIBOR Market Model and Beyond
Riccardo Rebonato
In recent years,
interest-rate modeling has developed rapidly in terms of both practice and theory. The
academic and practitioners' communities, however, have not always communicated as
productively as would have been desirable. As a result, their research programs have often
developed with little constructive interference. In this book, Riccardo Rebonato draws on
his academic and professional experience, straddling both sides of the divide to bring
together and build on what theory and trading have to offer.
Rebonato begins by presenting
the conceptual foundations for the application of the LIBOR market model to the pricing of
interest-rate derivatives. Next he treats in great detail the calibration of this model to
market prices, asking how possible and advisable it is to enforce a simultaneous fitting
to several market observables. He does so with an eye not only to mathematical feasibility
but also to financial justification, while devoting special scrutiny to the implications
of market incompleteness.
Much of the book concerns an
original extension of the LIBOR market model, devised to account for implied volatility
smiles. This is done by introducing a stochastic-volatility, displaced-diffusion version
of the model. The emphasis again is on the financial justification and on the
computational feasibility of the proposed solution to the smile problem. This book is must
reading for quantitative researchers in financial houses, sophisticated practitioners in
the derivatives area, and students of finance.
Riccardo Rebonato is
Head of Group Market Risk and Head of the Quantitative Research Centre (QUARC) for the
Royal Bank of Scotland Group. He is also a Visiting Lecturer at Oxford University's
Mathematical Institute, where he teaches for the MSC/Diploma in Mathematical Finance. His
books include Interest-Rate Option Models and Volatility and Correlation in
Option Pricing.
Endorsements:
"Dr. Rebonato has
blended technical mastery with many years of practical experience to produce what should
become the standard handbook for anyone wanting to value, hedge or control the risks of
interest rate derivatives."Ian Cooper, Professor of Finance, London Business
School
"This eagerly
awaited book fills an important need. It covers the pressing but technically difficult
issues of how to implement 'market' models of the term structure for the purposes of
valuing and hedging interest-rate-sensitive derivatives. Dr. Rebonato is a leading expert
in the field. His treatment is exceptionally lucid as well as authoritative."Stewart
Hodges, University of Warwick
"Riccardo Rebonato
succeeds admirably in combining an accessible exposition of the foundations of the LIBOR
market model framework with extensive guidance on the calibration and implementation of
the models in practice. The book's many insights into the dynamics of fixed income markets
and models should provide industry professionals with valuable tools and offer academics a
rare glimpse of the market as viewed by a practitioner-theorist, all presented in the
author's elegant and lively style."Paul Glasserman, Columbia University
"This book is a
significant contribution to the field. It offers plenty of empirical work and case studies
illustrating the application of the models each step of the way. Unlike other treatments,
it emphasizes the market rationale for modeling choices, and is not driven by purely
mathematical considerations. Reference is continually made to market features, the
behaviour of instruments, and empirical features, with all of this backed up by the
author's considerable experience."Nick Webber, University of Warwick
462 pages
