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Computational Management Science

, Volume 16, Issue 1–2, pp 275–295 | Cite as

Calibration of one-factor and two-factor Hull–White models using swaptions

  • Vincenzo Russo
  • Gabriele TorriEmail author
Original Paper
  • 111 Downloads

Abstract

In this paper, we analize a novel approach for calibrating the one-factor and the two-factor Hull–White models using swaptions under a market-consistent framework. The technique is based on the pricing formulas for coupon bond options and swaptions proposed by Russo and Fabozzi (J Fixed Income 25:76–82, 2016b; J Fixed Income 27:30–36, 2017b). Under this approach, the volatility of the coupon bond is derived as a function of the stochastic durations. Consequently, the price of coupon bond options and swaptions can be calculated by simply applying standard no-arbitrage pricing theory given the equivalence between the price of a coupon bond option and the price of the corresponding swaption. This approach can be adopted to calibrate parameters of the one-factor and the two-factor Hull–White models using swaptions quoted in the market. It represents an alternative with respect to the existing approaches proposed in the literature and currently used by practitioners. Numerical analyses are provided in order to highlight the quality of the calibration results in comparison with existing models, addressing some computational issues related to the optimization model. In particular, calibration results and sensitivities are provided for the one- and the two-factor models using market data from 2011 to 2016. Finally, an out-of-sample analysis is performed in order to test the ability of the model in fitting swaption prices different from those used in the calibration process.

Keywords

One-factor Hull–White model Two-factor Hull–White model Calibration Swaption Coupon bond option 

Notes

Acknowledgements

Gabriele Torri acknowledges the support of the Czech Science Foundation (GACR) under Project 15-23699S and SP2017/32, an SGS research project of VSB-TU Ostrava.

Disclaimer

Vincenzo Russo and not his employer is solely responsible for any errors.

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Copyright information

© Springer-Verlag GmbH Germany, part of Springer Nature 2018

Authors and Affiliations

  1. 1.Group Risk ManagementAssicurazioni Generali S.p.A.MilanItaly
  2. 2.Department of Management, Economics and Quantitative MethodsUniversity of BergamoBergamoItaly
  3. 3.Department of FinanceVŠB-TU OstravaOstravaCzech Republic

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