Abstract
Interest movement models are important to financial modeling because they can be used for valuing any financial instruments whose values are affected by interest rate movements. Specifically, we can classify the interest rate movement models into two categories: equilibrium models and no-arbitrage models. The equilibrium models emphasize the equilibrium concept. However, the no-arbitrage models argue that the term-structure movements should satisfy the no-arbitrage condition. The arbitrage-free interest rate model is an extension of the Black-Scholes model to value interest rate derivatives. The model valuation is assured to be consistent with the observed yield curve in valuing interest rate derivatives and providing accurate pricing of interest rate contingent claims. Therefore, it is widely used for portfolio management and other capital market activities.
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This chapter is from The Oxford Guide to Financial Modeling: Applications for Capital Markets, Corporate Finance, Risk Management, and Financial Institutions by Thomas Ho and Sang Bin Lee, copyright © 2004 by Thomas S.Y. Ho and Sang Bin Lee. Used with permission of Oxford University Press, Inc.
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Ho, T.S.Y., Lee, S.B. (2006). Term Structure: Interest rate models. In: Lee, CF., Lee, A.C. (eds) Encyclopedia of Finance. Springer, Boston, MA. https://doi.org/10.1007/978-0-387-26336-6_50
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